It’s interesting to see the Austrians furiously backpedaling from their criticism of my Richman post. Recall that Richman said:

But the Austrian school of economic s has long stressed two overlooked aspects of inflation. First, the new money enters the economy at specific points, rather than being distributed evenly through the textbook “helicopter effect.” Second, money is non-neutral.

Since Fed-created money reaches particular privileged interests before it filters through the economy, early recipients””banks, securities dealers, government contractors””have the benefit of increased purchasing power before prices rise.

This is wrong. It makes no difference who gets the extra money from the Fed, because the recipient is no wealthier than before (money is swapped for bonds) and hence they have no incentive to spend any more. Rather the impact occurs in the AGGREGATE. Total holdings of the base now exceed total base demand at the current price level, and hence aggregate nominal spending rises (if the injection is permanent.)

Then the Austrian commenters started to change the subject—asking what would happen if the newly injected money was used to buy goods and services. It still wouldn’t make a whole lot of difference which individual got the money, i.e. whether the Fed bought zinc in the US or Canada. However because profit margins in sales of goods and services are higher than in bonds, it might well make some difference. I agreed with that claim from the beginning. More importantly, it could obviously matter for the zinc market.

Now the commenters suggest it is I who am changing the subject, and have somehow given ground. That’s wrong, I stand 100% behind everything I’ve written in recent posts and comments.

Scott actually doesn’t dispute anything in what the Austrians have in mind when they say “it matters who gets the Fed money first.” It’s just that Scott calls such outcomes “fiscal policy” and thus, by definition, “monetary policy” can’t help some and hurt others in terms of who gets the money first.

If Richman is an Austrian, I most certainly do dispute what they have in mind. To reiterate:

1. In actual real world monetary policy the central bank buys government debt, Treasury backed MBSs, or something similar. Contrary to Richman, it makes no virtually difference who gets the money first.

2. During normal times when rates are low above zero, it wouldn’t even make any macroeconomically significant difference if central banks bought gold, common stock funds, etc. The amounts are way too small.

3. At the zero bound, the purchase of stocks or gold might matter a little bit, but the effect would still be dwarfed by other aspects of Fed policy.

4. If the central bank bought goods and services at the zero bound, then the direct impact on those markets might be significant. But that would be combining monetary and fiscal policy. More importantly, central banks don’t do that.

So yes, when the world’s central banks start buying bananas, then it will be safe for Austrians to talk about “Cantillon effects.” Until then they should just quietly drop the subject, pretending that it was never a part of Austrian dogma.

PS. If Austrians want to hitch their “Cantillon effects” argument to fiscal channels, then expect a giant yawn from the profession. We’ll be about as excited as when Greg Ransom tells us that only Hayek understood that prices had a “signalling role.”

PPS. Of course I agree with Nick Rowe’s post—any important Cantillon effects would reflect fiscal policy, and the Fed doesn’t do fiscal policy. When the Fed buys bonds, it makes no difference “who gets the money first.” They do not get first dibs at buying stuff.

PPPS. Maybe this would help. There’s a big difference between claiming “it matters whether the Fed buys bonds X or Y” and “it matters whether the Fed buys bonds X from Joe or Fred.” Richman is claiming it matters whether they buy bond X from Joe or Fred, because the lucky ducky who gets that cash first can buy those goods about to go up in price. That’s wrong.

Despite (or because of) the independence of the Fed from the rest of the government, does it not seem questionable to separate monetary and fiscal policy so cleanly?

If I understand correctly, you’re saying that buying Treasury-backed MBSs will not cause the the Treasury to then buy more Treasury-backed MBSs than it would have in the absence of OMO. That seems like an false assumption. And if you agree that it is quite likely that having the Fed take a load of MBSs onto its balance sheet will inspire the Treasury to then insure a new batch of MBSs, that fits your definition of fiscal policy, does it not?

I might be a little bit off here, but I’m not too sure anymore what you call “monetary” and “fiscal” policies…

Let’s take a current example:
In the UK, the BoE has recently launched the “Funding for Lending scheme”, in which banks swap assets for cheap funding in order to lend more eventually.
Of course, this does not really happen and banks actually marginally increase their lending and take benefit of the cheap funding to boost their margins. If they boost their margins, profits increase. If profits increase, bankers get bigger bonuses.

Then they start spending the new money, which flows down the economy, as prices start rising progressively. Bankers are then better off than people down the line.

Would you call that “fiscal policy”? It looks to me that there clearly is a large “monetary policy” component.

I *finally* am confident that I understand your position, Scott, thanks. (I’m not being sarcastic.) I will digest it and perhaps next week launch another onslaught.

BTW I wouldn’t classify what we did as “furious backpedaling.” In my mind, we were saying, “Holy cow! Sumner’s reaching his hilarious conclusion by a definitional trick!”

However, I realize now that my “resolution” doesn’t work, since you and Sheldon disagree on what should be called “fiscal policy.” So there really is a substantive disagreement, not just a semantic one.

Last thing: I take your word for it that most economists would get the fiscal/monetary policy distinction. I still haven’t read the original Richman article (it’s not online right?), so I don’t know what he said, but I am pretty sure he wouldn’t say, “To be clear, I’m referring to monetary policy even if there are no fiscal policy effects.”

“My point is that it makes no difference who they buy the bonds from.”

I feel like this sentence encapsulates the whole disagreement. It doesn’t matter at all? Not to anyone? It is simply that nobody cares who sells the bonds?

In my mind, the claim is serious overreach. It obviously matters to the people selling the bonds, because they have a major seller with oligopsony power that they otherwise would not have. The Fed moves markets. Prof. Sumner himself uses market responses to demonstrate the benefits of NGDPLT.

So, obviously, at least some people care who the Fed buys the bonds from. If it didn’t matter, then it wouldn’t affect the market. If it didn’t matter, nobody would sell bonds to the Fed.

Scott, a Ph.D. candidate nailed it the other day in a long comment you refuse to engage (typical).

Is you want to engage the Austrian mechanism of say former BIS chief economist William White or the other BIS economists who predicted the bust of 2000s in the early part of that decade, you need to engage it.

You need to STOP this non-sense of inventing your own ‘Austrian macro’ based on commentary for the public from a journalist, or from sock puppet ‘Austrians’ in offhand comments in blogs.

Is ABSURD for you to continue to do this.

You take the words of a journalists, misread them, then ascribe false views to a scientific research program.

That, my friend, is a scholarly disgrace.

I’m not calling you names, that’s your game.

I’m describing the phenomena.

Its a scholarly disgrace to construct bogus arguments taken from sock puppet internet commentators or from journalistic articles for the public, and ascribe those bogus claims to other scientists.

A disgrace.

What is so hard to get about that?

Think about it.

Taking remarks from anonymous blog comment writers and from journalists writing for the public, misreading those, constructing bogus arguments and then ascribing those arguments to scientists, which have essentially NOTHING to do with what their concerns are.

The issue encompasses the wider issue of misusing the concept of “information” as a stand in for the work prices do or what take place when people are changing judgments in the market. See for example:

Esteban Thomsen, Prices and Knowledge. Routledge.

There are many others, and there is a growing literature on entrepreneurship and in institutional economics on the topic.

Morgan,
Markets aren’t moral. They change according to economies of scale that shift over time, as resources get redefined. As Arnold Kling says, “Markets fail. Use markets.” I would say the same for OMO because right now nothing else comes close to providing adequate transmission of aggregate wealth…at least that wouldn’t fry numerous brains which aren’t actually employed for the task.

“You are talking about what happens when the Fed chooses to buy bonds. I agree. My point is that it makes no difference who they buy the bonds from.”

Put like this, what you are really saying is that markets are liquid. Using a physical analogy, if you put a hose into a swiming pool, it doesn’t matter if you put the hose in the deep end or the shallow end.

The Fed’s actions may not significantly impact the price of the assets that they are buying. But, it doesn’t matter who they buyt them from. Suppose, I hold a T-security, and don’t sell it to the Fed, and someone else holds a T-security who does. The Fed in its OMO drives up the price of T-securites. I am at least as well off, holding an inflated T-bond that I could sell, as the man who did sell his T-bond at an inflated price.

So Hayek re-introduced the British economists to the Cantillon Effect via the examples of Hume and Cantillon, NOT to suggest that the Cantillon Effects created booms and bust, to open their eyes to the flexibility or ‘loose joint’ which exists in the network of prices due to expansions or contractions of money and credit.

So there is flexibility and a loose joint in the network of prices which *differs* from the perfect coordination of the GE construction.

That simply opens the door for thinking about what really matters, the flexibility or loose joint in the system involving the creation of endogenous money and shadow money — and the connection of that loose joint via interest rates and credit to the flexibility or loose join in the system represented by the possibility of choosing longer production processes promising superior output over shorter production processes promising inferior output.

Lets look at the boom and crash in shadow money over the last decade again:

If you want to engage scientists working on this stuff, engage them. Engage Roger Garrison. Engage Gerald O’Driscoll. Engage William White & the economists at the BIS. Engage Lawrence White and George Selgin.

Do that rather than shadow boxing sock puppets, journalists, and yourself.

Or you might get a minimal competence in Hayek’s original stuff and the growing secondary literature on it — and rather than simply making erroneous stuff up and labeling it ‘Austrian’.

“The Fed in its OMO drives up the price of T-securites. I am at least as well off, holding an inflated T-bond that I could sell, as the man who did sell his T-bond at an inflated price.”

So if Goldman Sachs owns a pile of T-Bills, and sells a few of those to the Fed, and keeps a pile of T-Bills, who is better off after the OMO operation? As compared to everyone who does not own T-Bills?

And if the financial sector is relatively better off than the non-financial sector, is made in a more solvent position, is made in a less risky position, then the financial sector is in a better position to expand money and credit via loans and deposits from producers and owners and debtors making longer term production goods, such as houses.

My guess is that Sheldon Richman is aware that all of the players in finance benefit, and that Scott Sumner was beating a straw man do death all along. As I’ve said, the whole conversation is generated by Scott’s misreading of a pun, the expression “who gets the money first” is a general hand wave at the phenomena, its not all about A or B selling the bond. Yet certainly Smith tells us there is a reason A sells and B does not, and that A sells only because there is some gain from trade to be had.

“Greg, answer this simple question, as Doug so wonderfully put it:

Person A has a T-bill, person B as well.
Fed decides it wants to buy one T-bill.

I had a comment on your previous post (http://www.themoneyillusion.com/?p=17991#comment-211432) that presumably got missed in the avalanche of comments – or maybe it was too elementary a question to answer again (you may well have dealt with these potentially basic points before).

I’m still interested in answers to my questions – though as I say you may have provided them, I may just be too dense for them to be getting through – but my query here was: sure it doesn’t matter which sellers you buy it from, but it matters that only some people hold gilts/T-bills and some don’t, doesn’t it?

Unless because of RE, gilt purchases don’t affect gilt prices (but people don’t appear to have perfectly rational expectations in that yields go down when central banks buy – I don’t know if they go up when they sell). Am I wrong to think that asset purchases make yields go down? Isn’t that one of the intentions? I read a BoE report that said they did, so I was under that impression.

Thanks for any help,

Ben

p.s. you may remember we had a brief chat during an Oxford Libertarian Society discussion/talk you did back in 2010

All along I have NOT assumed that Seldon Richmond is claiming what Sumner asserts he is claiming, eg:

“There’s a big difference between claiming “it matters whether the Fed buys bonds X or Y” and “it matters whether the Fed buys bonds X from Joe or Fred.” Richman is claiming it matters whether they buy bond X from Joe or Fred, because the lucky ducky who gets that cash first can buy those goods about to go up in price.”

The too-big to fail banks are holding a pile of T-Bills. The Fed is buying T-Bills. The banks sells a few of their T-Bills to the Fed.

The whole point of what the Fed is doing in large part is to make banks solvent, to increase their liquidity, to put them on a more solid and less risky foundation, to put them into a situation where they are making more loans to fiance long term production and taking in more deposits, lather, rinse and repeat.

Please explain to me why this isn’t a financial boon for the banks.

What am I not getting.

Sheldon Richman is essentially right, if you read him with charity, as I days ago requested.

I think I understand this now. My first impression was of course the guy that sells the bonds to the fed must benefit, otherwise why would he sell the Fed bonds in the first place. But what your saying is this guy just wants to sell his bonds, whether it be to the market or the Fed. He may choose to sell it to the Fed rather than the market, because its more convenient to sell to one buyer like the Fed, or maybe there’s lower transaction cost, but whatever premium this guy is getting over the market it’s likely to be very small relative to the size of the purchase, which itself is small relative to the bond market, such that this small profit that leads him to prefer selling to the Fed couldn’t possibly have any macro consequences.

It’s still effective policy however, because money is so much different than bonds. Maybe not so much to the initial buyer, since he can easily borrow with bonds as collateral. But it’s important to the economy, because when that guy borrows on the bonds it just transfers money between people, whereas in this instance the guy gets his money, which means the guy he would have borrowed it from is free to lend his money to someone else,or buy donuts, or line his mattress with it…wait scratch that last one. So the important thing is that it frees up that extra bit of money for something else. Put another way the important thing is that there is now more money. Is that the jist? Money creation as a concept has always hurt my brain.

OK then this is a whole different discussion, so to requote ssumner’s title:

“It really, really, really doesn’t matter who gets the money first”

what matters is who holds the securities. Whether securities gain in value or not, I think is a more disputed topic, ssumner what is your point of view on this?

Not sure who asked, but at some point, there was a question that if bond yields do not drop, then how can QE be effective.

I can see one way of this happening.
If you agree that if we increase the monetary base PERMANENTLY, we will get long run inflation. Then doing QE coupled with a NGDP target would be essentially pledging this.
Now long-run inflation, means higher expected inflation meaning higher long term bond yields, and higher current inflation, which would boost NGDP.
Do you agree on this?

It’s interesting to see the Austrians furiously backpedaling from their criticism of my Richman post. Recall that Richman said:

“But the Austrian school of economic s has long stressed two overlooked aspects of inflation. First, the new money enters the economy at specific points, rather than being distributed evenly through the textbook “helicopter effect.” Second, money is non-neutral.

Since Fed-created money reaches particular privileged interests before it filters through the economy, early recipients””banks, securities dealers, government contractors””have the benefit of increased purchasing power before prices rise.

This is wrong. It makes no difference who gets the extra money from the Fed, because the recipient is no wealthier than before (money is swapped for bonds) and hence they have no incentive to spend any more. Rather the impact occurs in the AGGREGATE. Total holdings of the base now exceed total base demand at the current price level, and hence aggregate nominal spending rises (if the injection is permanent.)

If the Fed were buying cars, why aren’t car sellers merely “swapping money for cars” and thus “have no incentive to spend any more”? If a car seller sells a car for $50,000 to the Fed, why isn’t that merely a “swap” of (supposedly) equal values?

You continue to contradict yourself. If the Fed buys a car for $50,000, and you admit that this does entail a boost to the car seller, because the seller is “wealthier then before”, and that this is not merely an instance of “money is swapped for cars”, then if the context is the Fed buying a bond for $50,000 instead, then you contradict yourself and claim that this somehow does not entail a boost to the bond seller, because there is merely an instance of “money is swapped for bonds”, and hence, the bond seller is allegedly not “wealthier than before”.

Can’t you see how that is problematic?

Why is it that when the Fed “swaps money for cars”, that makes the car sellers better off, but if the Fed “swaps money for bonds”, that doesn’t make the bond sellers better off? Why is the former not a swap, but the latter is a swap?

Then the Austrian commenters started to change the subject””asking what would happen if the newly injected money was used to buy goods and services. It still wouldn’t make a whole lot of difference which individual got the money, i.e. whether the Fed bought zinc in the US or Canada. However because profit margins in sales of goods and services are higher than in bonds, it might well make some difference. I agreed with that claim from the beginning. More importantly, it could obviously matter for the zinc market.

There was no “change of subject.” The Cantillon Effect was the subject the whole time, and the Austrians were just applying what you seem to be able to apply to cars, to bonds as well, by saying if the Fed benefits car sellers by buying cars, then they would benefit bond seller by buying bonds! Money is money. If you give something away to the Fed in exchange for newly created money, then it does not matter to the seller, what non-money good they gave back. They now have more money.

Now the commenters suggest it is I who am changing the subject, and have somehow given ground. That’s wrong, I stand 100% behind everything I’ve written in recent posts and comments.

Then you remain as wrong now as you were then. Your whole defense is based on nothing but semantics. You insist that because the name you use to refer to the Fed buying X is different from the name you use to refer to the Fed buying Y, that somehow the mere difference in names has a motive force of its own in changing what is happening.

1. In actual real world monetary policy the central bank buys government debt, Treasury backed MBSs, or something similar. Contrary to Richman, it makes no virtually difference who gets the money first.

This in incorrect. It does make a difference. The same reason it makes a difference if car sellers rather than taco sellers receive the new money, so too does it make a difference if bond sellers rather than car or taco sellers receive the new money.

2. During normal times when rates are low above zero, it wouldn’t even make any macroeconomically significant difference if central banks bought gold, common stock funds, etc. The amounts are way too small.

Nobody is disputing aggregate spending statistics. Different Cantillon Effects exist within the same aggregate spending, depending on who gets the new money first. You are just saying “it wouldn’t make any [NGDP] difference if central banks bought gold, common stock funds, etc.”

3. At the zero bound, the purchase of stocks or gold might matter a little bit, but the effect would still be dwarfed by other aspects of Fed policy.

Nobody asked you about your opinion on the the “size” of the effect. It’s non-zero, and that is sufficient.

4. If the central bank bought goods and services at the zero bound, then the direct impact on those markets might be significant. But that would be combining monetary and fiscal policy. More importantly, central banks don’t do that.

You again contradict yourself. It doesn’t matter if the Fed buys tacos or bonds, there is a direct non-zero impact to the sellers.

So yes, when the world’s central banks start buying bananas, then it will be safe for Austrians to talk about “Cantillon effects.” Until then they should just quietly drop the subject, pretending that it was never a part of Austrian dogma.

No, they can continue to correctly point out that the Cantillon Effect takes place no matter what the Fed buys, because the effect derives from the introduction of new money at only distinct points in the economic system, and not from what specifically the Fed buys.

As long as the world’s central banks continue to inflate and buy ANYTHING, then nobody, including Austrians, ought to “drop the subject”. The Cantillon Effect is very much a part of market monetarist dogma.

PS. If Austrians want to hitch their “Cantillon effects” argument to fiscal channels, then expect a giant yawn from the profession. We’ll be about as excited as when Greg Ransom tells us that only Hayek understood that prices had a “signalling role.”

You continue to prove yourself more concerned with appearances, than with ideas and truth.

PPS. Of course I agree with Nick Rowe’s post””any important Cantillon effects would reflect fiscal policy, and the Fed doesn’t do fiscal policy. When the Fed buys bonds, it makes no difference “who gets the money first.” They do not get first dibs at buying stuff.

This is incorrect. The Cantillon Effect is a consequence of inflation, so if the central banks inflate, and they buy X from person Y, then the Fed is bringing about Cantillon Effects, and I don’t care if you call it fiscal policy or monetary policy. The effects are there. All you can do is either deny them, or accept them. Why are you denying them?

PPPS. Maybe this would help. There’s a big difference between claiming “it matters whether the Fed buys bonds X or Y” and “it matters whether the Fed buys bonds X from Joe or Fred.” Richman is claiming it matters whether they buy bond X from Joe or Fred, because the lucky ducky who gets that cash first can buy those goods about to go up in price. That’s wrong.

No, it’s correct, for the same reason you admit that car sellers and banana sellers would benefit if the Fed started buying cars and bananas.

If the Fed buying t-bonds doesn’t affect the markets selling t-bonds, then, logically, those t-bond markets would not change the way they affect other markets, and those tertiary markets would not change in the way they affect quaternary markets, and so on. Thus, by claiming that the Fed buying t-bonds does not affect the markets selling t-bonds, one is literally denying that the Fed has any effect on “the economy” in totality, since the t-bond market is the sole “conduit” from which the Fed affects the greater economy.”

————————–
PPPS. Maybe this would help. There’s a big difference between claiming “it matters whether the Fed buys bonds X or Y” and “it matters whether the Fed buys bonds X from Joe or Fred.” Richman is claiming it matters whether they buy bond X from Joe or Fred, because the lucky ducky who gets that cash first can buy those goods about to go up in price. That’s wrong.

No, it’s correct, for the same reason you admit that car sellers and banana sellers would benefit if the Fed started buying cars and bananas.
————————–

hein? What’s the relationship? Car sellers and banana sellers as a whole are benefitting from the fed buying the cars or bananas, it’s not just the specific vendor of banana that benefited. So the question is not did the fed buy a bond from Joe or Fred, but did the fed buy bond X or bond Y.

Not sure what’s the point here, it seems as if the whole reply is focused on saying that the bond owners are gaining in value (which is reasonable if bond prices go up), and then at the end, out of nowhere comes the conclusion that it matters which person sold the car/banana/bond ….

The debate appears to focus on the Fed’s asset side of the balance sheet — what they buy. This is not correct, as Scott points out. The complaint rests on the liability side.

Try focusing instead on the Fed’s liability side – reserves and currency. (And please stop putting names on positions – “Austrian” is poorly defined. Labeling puts us in a tribal us-versus-them emotional trap that damages the search for empirical truth.)

On the Fed’s liability side:
1) The Fed provides counter-cyclical “permanent capital” to the banking system, sometimes when bank balance sheets are damaged and lending is scarce, in the form of reserves. The presence of a “lender of last resort” has monetary value (or else moral hazard would not exist).
2) Banks then choose to switch excess reserves into required reserves or not. IOR is a method for restricting or expanding the realized required/excess reserve ratio. The marginal tendency to switch into required reserves (lending) is otherwise an internal bank decision. The effectiveness of reserves as simulative policy thus hinges on the incentives to lend – or else IOR would not work.
3) Only banks get the special benefit of reserves – therefore, banks may be recapitalized and handed a healthy balance sheet by the Fed’s fiat power when economic activity is slow, balance sheets are weak, and asset prices are depressed.
4) Banks therefore can lay claim to real assets – interest and/or recovery value and equity – at highly advantageous points in the economic cycle, with the costs being spread widely through all holders of money. Banks get capital, the broad economy gets inflation. This appears sector-selective.
5) As a coda, debt prices float and have a risk premium, and so are not equivalent to base money. Electronic deposits are essentially short call options on base money – try showing up at a bank and getting cash. Replacing debt and/or deposits with base money is the essence of inflation. Finally, illiquidity matters – try getting a loan to buy real assets when the banking system is insolvent.
6) I might add that Scott’s framework implies that illiquidity crises are a symptom, not a cause, of zero interest rates (zero demand for borrowing, that is). Debt is liquidated in favor of base money because there is no interest attached to debt.

The “Austrian” complaint may be that the commercial bank sector selectively benefits from the injections of permanent capital from the Fed – and I would have to agree.
We could imagine an analogue to excess reserve injections to the household sector – when GDP or incomes fall below a threshold, then the Fed creates base money liabilities (currency) directly in your bank account, instead of creating bank reserves (the Fed then goes out and buys Treasury bonds as the corresponding asset). This would most certainly change your spending behavior, and so has a monetary value. I imagine that this is “fiscal policy” in Scott’s framework. By this standard, the complaint is that commercial banks enjoy a permanent “fiscal policy” transfer from the Fed that constitutes sectoral favoritism in the timing and benefits of inflation.

Therefore, it does matter what sector the Fed LIABILITIES end up – it is capital (which leads to spending power), straight up – selected entities (banks) get the biggest balance sheets on the block. It does not matter what Fed assets are bought on the flip side – this is a one-off and only substitutes base money for debt. We’re simply confusing the two sides of their balance sheet. (Note that this is not shifting the topic – we are just perhaps defining our terms better.)

If the Fed were buying cars, and Sumner admits this would make car sellers wealthier, that the Cantillon Effect does apply, then why doesn’t Sumner argue what he says to those who say it applies to bonds, by saying something like this:

“It doesn’t matter who receives the new money first. If car sellers receive the new money first, then assuming EMH is true, all that will happen is that the Fed will be paying the “fair market price” of cars. The car sellers would not be getting any wealthier. They would simply be “swapping money for cars.” They would “have no incentive to spend more.” Only a fool demagogue lunatic who won’t shut up believes that the car sellers are somehow better off.”

Where is that argument? It’s the one being used to deny the Cantillon Effect applies to bond purchases.

I presume that they are paying for these securities with fed-created cash.

So if I hold $65 billion in MBSes, and put them up for sale at auction, somewhere between 0 and 100% of my MBSes will be purchased by the Fed.

MBSes are risky (see 2007) and cash is not. So it seems clear that my risk has gone down by selling anything more than 0% of my MBSes. And presumably I’m pricing my MBSes so I’m indifferent, in terms of future interest payments, as to whether the Fed purchases them or not (or perhaps I’ve nudged the price just a little higher, hoping to get a tiny windfall)

On the other hand, I am not going to make any money long term with cash. So I have to go out and find more income streams to invest in.

So it seems like there’s a tiny windfall for me (potentially) and a new burden as well (find new investments).

Perhaps I go out and create more MBSes, by buying mortgages. Because the mortgage industry is fairly large and competitive, this demand generally has the result of slightly reducing the interest rate that homeowners pay to acquire or refinancing their mortgages. Thus putting a modest amount of additional money in their pocket each month.

For example, when I looked at refinancing a couple of months ago, the decrease in my monthly outflows because of the lower monthly mortgage payment was roughly 1-2% of my monthly income. I didn’t do it, because I didn’t like/trust the company I was dealing with, but, summed across thousands of families that did refinance, that’s a pretty good “freeing up” of money to buy new stuff, pay down other debts, etc. Or, as some would say, a modest increase in NGDP.

Following this thought experiment through, it seems like there’s a very small benefit for having your MBSes purchased by the Fed, and there’s a small benefit for being a homeowner who refinances to a lower rate than they would have gotten if QE3 did not exist.

Oh, and what do you call your arguments that are about wanting things to change? Executive decisions? Congressional legislation? You’re “complaining” like the rest of us.

WHAT ARE YOU GOING TO DO ABOUT IT?

AT THE VERY LEAST, ABSTAIN FROM USING GOVERNMENT TO FIX THE PROBLEM OF GOVERNMENT.

The same way I would at least abstain from stealing from or killing people if I wanted to stop theft and murder.

What would you have me do? Risk my very valuable life by building a paramilitary compound and declaring myself sovereign, and refuse to pay protection money to the gang of crooks in Washington, and then use defensive force against any hired goon who comes “knocking” and tries to kidnap me? I may be a dogmatic ideologue lunatic, but I’m not stupid.

The only thing I can do is “complain”. If that pisses you off, then imagine complainers in a concentration camp complaining while other prisoners have to listen to them. Sure, it’s probably annoying to the other prisoners, but the complainers are right, and they are there to remind people not to forget what it’s like to be free. So many people don’t even know what freedom is like. I am the annoying SOB who doesn’t sit silent while you people believe you’re helping me by calling for more inflation to bankers and the Treasury.

If you refuse to “complain”, then sit back and let the adults do it for you, and please, belittle and patronize as much as you can, because those who do what we do are immune from popularity contests.

I see a couple issues with your example. First, MBSs can be considered relatively risky compared to cash, but the risks are of a somewhat different nature – that is to say, investments are not all placed on a sliding scale ranging from “risky” to “riskless”.

More to point, though, there is a subsection of the financial services industry whose sole purpose is to make a market in MBSs. They stand ready to buy or sell MBSs at the market price, and receive the difference between the bid price and the ask price for doing so. Those people benefit from more volume, regardless of price movements.

Home loan officers, and the banks they work for, perform a task that is similar in some respects. Whereas in the past those banks acted as a seller of credit, now they’re more like market makers in the sense that they make loans but then turn around and sell those loans to investors, keeping for themselves a small portion of the money (like the MBS traders).

Both of those groups of people directly benefit from Fed purchases of MBSs. You as an individual might not think it’s worth it to refinance your home loan, but many people do. In my opinion, however, the MBS purchases will continue to have diminishing returns on lowering home loan rates. What the purchases will (should) do, is take more MBSs off bank balance sheets, thereby freeing them to make more loans.

This will work its way through the economy to benefit a wide range of industries, but in my opinion it’s clear that it -is- a market intervention and will have winners and losers.

Gabe what sumner is saying is that jpm and gs are not gaining because the fed is buying from them specifically. If the fed was buying from boa then they would be profiting as well. Also person x who was holding a bond is also gaining.

Of course when gs is selling a bond it must be a profit for the bank, for example one way of making profit is it buys from anither client the bond for less money and sells it to the fed for mre. But this us what’s always happening this is the business model of a market maker!

So essentially the argument being debated here is does jp profit more if the fed is its counterparty or if let’s say it’s gs?
The only reason why it would be more beneficial to have the fed as your counterparty is if for some reason the fed is always outbiddng the others, and the only way this can be consistentky happening is if the market is so inefficient that it’s failing to clear consistently which is a very odd statement to declare …

Actually there is another argument as to why Primary dealers would profit it’s increasing the volume of their business this is fair enough but that will happen anyway if ngdp goes up. So if the argument here is that the primary dealers are profiting more because they have increased business then fine that’s a good point, but surely the numbers we are talking about here are nothing compared to the potential benefits QE could be giving you (increased NGDP)

Gabe has the same issue with this that I have. I’m still struggling to understand why he and I have it wrong. The Fed moves markets and bond sellers benefit from that, over and above the impact on the economy at large.

This at least appears to be true – why does no one else have a problem with it? When Haliburton Energy benefited from the War in Iraq, people objected to what they saw as “war profiteering.” Even if one sympathizes with Haliburton, no one suggests that those who oppose “war profiteers” are insane or fringe or loopy or that they don’t understand war.

Why not afford the same level of intellectual tolerance to people who oppose Fed-sponsored “bond profiteering.” I have no qualms with someone who sells bonds to a private agency with no particular political motivation. But isn’t selling bonds to the central bank a little different? And if not, why not? That’s my question.

Doug M “” you forgot. Prices are perfectly and instantly coordinating across space and time and individuals and assets and production processes etc.

Discoordination is impossible per the EMH.

Makes perfect sense. If I knew the Fed was going to print $100 trillion next year, then my employer would instantly be able to raise our company’s selling prices by 100,000% today and our buyers would instantly be able to pay those prices.

I hope you’re not reading these last few blog posts for the economics, but rather the laughs. I know I am.

Would everyone please stop talking about the money made by the primary dealers. It’s a total distraction. These are just transaction costs….just like the salaries paid to Fed employees who execute the trades, or the cost of servers at the FICC. The Fed uses primary dealers because it’s the most efficient way (i.e. lowest transaction costs) for carrying out OMO. Nobody is making windfall profits. The numbers are negligible.

MJ you just threw on the air all microeconomics 😉 (exaggerating of course) …

And what I’m saying is true is that the fact the the fed is buying specifically from primary dealers it’s increasing their business so if competition is not perfect it’s increasing their profit, this was already covered by another comment (the 10$ for every 1m$) and concluded that the impact is minuscule as compared to the whole economy.

But also unless the primary dealers have the bonds in their hands already (unlikely) those primary dealers have to go and buy them from someone else who is also profiting from this so you can also consider they have an increased profit due to this. And in extension all bond holders would profit, and potential more than the primary dealers (simple example bonds before QE were worth 100 after QE they jumped to 120 but primary dealers’s margin is 0.01 so the primary dealers would make 0.01 per bond while bond holders make 20 per bond so as long as their many dealer trades less than 2000 bonds he’s worse off, numbers are not really realistic obviously)

“We continue to anticipate what the Fed is buying,” Gross said. “They’ve told us they will buy $40 billion to $70 billion of agency mortgages every month until the cows come home. It pays to own these mortgages even though they’re overvalued.”

I guess Bill Gross is a clueless demagogue. After all, these MBS are being increased in price before Joe Sixpack’s wages, and hence the inflation is changing the relative price between those two things. It’s OK to call this the Cantillon Effect because here at least the Fed isn’t buying t-bonds.

But what idiot would dare say t-bonds are similarly “overvalued” and whose prices are being propped up by the Fed? Only a fool would argue that, right?

Would everyone please stop talking about the money made by the primary dealers. It’s a total distraction. These are just transaction costs….just like the salaries paid to Fed employees who execute the trades, or the cost of servers at the FICC. The Fed uses primary dealers because it’s the most efficient way (i.e. lowest transaction costs) for carrying out OMO. Nobody is making windfall profits.

Hey dtoh, nice to see you join in this thread about the economics of inflation as it pertains to who receives the new money first.

The numbers are negligible.

Cool, I agree they are non-zero as well! Now tell that to Sumner who denies this, and claims that there is only “swaps” of equal value for equal value taking place with t-bond purchases.

MJ actually this is Ann argument to say that it does not matter who receives the money first. As far as I know bill gross is not a primary dealer and he is still profiting from this, so he is profiting from the raise of Mbs prices although he is not receiving the money first.

And what I’m saying is true is that the fact the the fed is buying specifically from primary dealers it’s increasing their business so if competition is not perfect it’s increasing their profit, this was already covered by another comment (the 10$ for every 1m$) and concluded that the impact is minuscule as compared to the whole economy.

You do realize that not everyone is even physically capable of being primary dealers, even if the market were perfectly competitive, right?

Who’s going to produce the food? Water? Clothing? Shelter?

If everyone were a primary dealer, we’d all be dealing nothing but worthless pieces of paper, because nobody would be producing real goods.

But also unless the primary dealers have the bonds in their hands already (unlikely) those primary dealers have to go and buy them from someone else who is also profiting from this so you can also consider they have an increased profit due to this. And in extension all bond holders would profit, and potential more than the primary dealers (simple example bonds before QE were worth 100 after QE they jumped to 120 but primary dealers’s margin is 0.01 so the primary dealers would make 0.01 per bond while bond holders make 20 per bond so as long as their many dealer trades less than 2000 bonds he’s worse off, numbers are not really realistic obviously)

All bonds that the Fed buys are already owned by someone. The fed can’t buy bonds from someone who doesn’t own any!

MJ actually this is Ann argument to say that it does not matter who receives the money first. As far as I know bill gross is not a primary dealer and he is still profiting from this, so he is profiting from the raise of Mbs prices although he is not receiving the money first.

Am I in the twilight zone? You just admitted JPM and GS profit when the Fed specifically buys their bonds. Now you’re saying it doesn’t matter who receives the new money first?

MJ I think you are being too literal here, there is no point of going into a discussion if the aim is just to say at the end I told you so.

That’s the aim in 99.999% of all arguments where there is disagreement. My point IS to say I told you so.

The commissions earned by primary dealers is nothing compared to the benefits QE would give, so you would ignore this 10th order effect, so the conclusion still holds.

I disagree. I hold that QE would distort the structure of the economy even MORE, by way of the Cantillon Effects that are generated, which prevents us from observing true RELATIVE market prices, which in turn lead to investors making investments decisions not in line with real consumer preferences!

I think this discussion of Cantillon Effects are VITAL if you are going to be judging the efficacy of QE with an informed mind (knowing the effects), rather than one uninformed (hoping it works out).

The mess we’re in right now is because of years, decades of structural distortions caused by perpetual, relentless, never ending relative price and spending distortions derived from central bank inflation. You cannot convince me to ignore the details and focus on sloppy aggregate thinking that masks what is actually going on. Sorry. I won’t let this go, just like you won’t let NGDP go.

But Gabe what’s the point? It’s not a round 0 but it’s not too far from it. So if the fed happened to print an extra booklet and wasted some paper you would say that it contributed to the fall of GDP?? Taken literally yes this is correct but is it really worth mentioning? Is it worth all that time spent by a lot people writing comments on a blog?? I feel this conversation is going no where if we are just hanging over this thin thread ….

MJ but then the topic if the conversation should be something different. The topic should be is QE effective or not? Which is certainly a widely disputed argument.

It should not be would the person who receives money first benefit or not. We agree that this is very small impact. Of course if QE has absolutely no benefit for you then there is no need to do it as 0> small order. But anyway this small order is irrelevant here, whether it existed or not.
What I’m arguing is if you believe QE is beneficial then it’s beneficial regardless of this small order impact. And you believe it’s not then it’s not also regardless of this effect (talking strictly about who receives money first and not the fact that the bond go up in value which could arguably distort prices)

When a home seller sells a home for $500,000, are they no wealthier than before? Didn’t they just “swap” a $500,000 home for $500,000 in money? Obviously there is no gain to the home seller by selling the home.

Why are home sellers expending so much labor and time and resources, constructing homes, when all that happens is that they “swap” $500k homes for $500k in money? Why not just not invest in the first place?

Answer this question, and you’ll see why it’s ridiculous to believe t-bond sellers are not gaining anything by selling t-bonds to the Fed, and why it’s ridiculous to believe they are merely “swapping” equal value $100 bond for equal value $100 in money.

The reason why Austrian economics is so powerful is because the core principles are so well grounded. Austrians know that in every trade, both parties hold offsetting, unequal valuations of the goods being traded. The bond seller values the $100 more than the t-bond, and the Fed values the t-bond more than the $100. And why not? Anything is worth more to the Fed than the money it creates, since the Fed can create money out of thin air. If you could print any quantity of money you want, you won’t care if you pay $100 for a bond that otherwise would have had a price of $10 if you closed up your money printing operation.

MJ is I ask you do you swap 100$ for 100.00000000000001$ assuming it’s costless to swap would you do it? I would! Although this tiny amount that I gained will barely have an impact on anything. Are you claiming that it’s the sum of all those minuscule amount that is giving something bigger? I kind of doubt it.

Now let us say that this same guy who swapped the 100$ heard rumours that the fed is printing a lot of money, surely this is creating inflation he thinks, we’ll then why keep the 100$ with me I’m better off buying this house for 100$(yes right! 100$ the house nice dreams!), but then his neighbour thought the same thing he even thought maybe it’s a good idea to buy it at 102 since I think inflation is going up etc … You can see that this would have a much bigger than the tiny amount above. Maybe you are right but I find it hard to believe that those tiny amounts are causing any impact on the economy …

As far as I know bill gross is not a primary dealer and he is still profiting from this, so he is profiting from the raise of Mbs prices although he is not receiving the money first.

But this underscores the view I’ve had that the assets being purchased are highly correlated to certain people. Thus, the question of whether asset X or Y is being purchased can’t be easily separated from the question of who the asset is being purchased from.

Admittedly I’m not an Austrian, but Cantillon Effect as I learned about it is that the “specific point where new money flows into the economy” has to refer to both assets and people. Because they are related.

MikeDC, are you saying that the fed before it decides to purchase MBS it’s doing a study on who owns MBS and then if she does not like those persons she would switch the decision to buying t-bills instead? Wow admittedly it’s possible but man what a world we would be living in!

It seems to me that financial market jobs that are peripheral to the huge profits earned at primary dealers have been by far the best jobs/careers since I have gotten out of college in 1996…everything else seems to have been in a 20 year long depression. It seems silly to me to say their aren’t winners and losers created by even tiny changes to the way the Fed decides to inject trilllions of dollars into the economy.

You really think the structure of the economy doesn’t change when the highest paying careers are Goldman Sachs JP Morgan for the last 20 years? I graduated from MIT in 1996…I can tell you for a fact that smart people with all sorts of degrees and talents gravitate to the financial market sector simply because we follow the money. JPM and GS profits are not trivial to this economy.

Morgan,
When I first came to this blog, I wondered why in the world the Fed would want to purchase mortgage-backed securities. Like you, I wanted to know, why isn’t there more focus on small business as the main driver of economic activity. When I was young, the book “Small is Beautiful” was one of my favorites. But…
1) small is relative
2) small is incremental
3) small depends on the economies of scale that people actually utilize for their own benefit, that often change the prime characteristic of ‘small’ in the process.

1) What is small to one person isn’t to the next, particularly with the wide variance in incomes.
2) Small is most successful when it grows incrementally, such as the way I was able to “grow” my first business before I ever sought a loan. People are more likely to succeed when they are allowed to do so incrementally, i.e. using their skills as they gain them, and living in small quarters till they can afford larger quarters.
3) However, small anything gains advantages when it is favored, that change its definition. To make the local small business successful, laws get enacted that provide non-incremental scale and implementation, to bring money in quicker for the favored SB.

That’s all the mortgage backed security is – the long term result of the Fed favoring small business along with all the others that used the building industry for primary wealth in the 21st century. That particular unit is not about any one group, but about ALL of those groups. The favored son grew, and grew, and grew…

American GDP is 15 trillion$ jpm+ gs income worldwide is 40billion$ let us assume america’s share is 50% (it’s less than that) that’s 20 billion, now let us say the part coming from the fed purchases are 1%(huge overstatement ) that would 200million do you compare that with the GDP better yet do you compare that to QE’s size??

” In aggregate, the total level of nominal purchases is constrained by the amount of currency in circulation. ”

velocity doesn’t matter now? or is this just another example of exaggeration and assuming that everything is trivial, nothing to see here, the Fed is really doing a great job, no corruption exists int he trillion dollar industry of printing money…we live in the best of all possible worlds.

Who said anything about commissions and bid/ask spreads in the bond markets. The only discussion has been about commissions and bid/ask spreads on OMO related transactions.

It seems to me that financial market jobs that are peripheral to the huge profits earned at primary dealers have been by far the best jobs/careers since I have gotten out of college in 1996

This is a huge extrapolation. Most of the high paying financial market jobs are not at all dependent on the market making in government securities carried out by the primary dealers.

You really think the structure of the economy doesn’t change when the highest paying careers are Goldman Sachs JP Morgan for the last 20 years? I graduated from MIT in 1996…I can tell you for a fact that smart people with all sorts of degrees and talents gravitate to the financial market sector simply because we follow the money. JPM and GS profits are not trivial to this economy.

Totally agree with your here, but this has nothing to do with the OMO, the subject of this post, or the function of primary dealers.

Who said anything about commissions and bid/ask spreads in the bond markets. The only discussion has been about commissions and bid/ask spreads on OMO related transactions.

It seems to me that financial market jobs that are peripheral to the huge profits earned at primary dealers have been by far the best jobs/careers since I have gotten out of college in 1996

This is a huge extrapolation. Most of the high paying financial market jobs are not at all dependent on the market making in government securities carried out by the primary dealers.

You really think the structure of the economy doesn’t change when the highest paying careers are Goldman Sachs JP Morgan for the last 20 years? I graduated from MIT in 1996…I can tell you for a fact that smart people with all sorts of degrees and talents gravitate to the financial market sector simply because we follow the money. JPM and GS profits are not trivial to this economy.

Totally agree with your here, but this has nothing to do with the OMO, the subject of this post, or the function of primary dealers.

“At the individual level, nominal purchasing power is determined by nominal wealth. At the aggregate level, nominal purchasing power is determined by the supply and demand for base money.”

You missed the second bit 🙂

No one is arguing here that the fed is the best body that has ever existed and no corruption exists. The whole topic here is does the person receiving money first benefits more than the others, and the conclusion was by a trivial amount (at least my conclusion)

“Do you believe the current method of injecting trillions of dollars into the economy benefits some individual careers more than others? some firms more than other firms?”

With respect to primary dealers, “Some?” Yes of course, but some is still negligible. And if you’re talking about OMO specifically (and not government debt issuance in general), it’s negligible to both the economy as a whole and to the bond traders individually.

Gave, yes I think it is benefiting but it’s not benefiting it any more than just expanding the NGDP which means more financial transaction, or even if the fed is directly buying MBS, this would eventually increasing the volume for banks, that’s just the way the financial system works. Then well at least in theory if you keep competition free among them this would push down their profit to the socially optimal.

Ok promise last comment, I am agreeing with you everyone is making money but they are also making money from MBS, they are making money abritraging credit ratings, the fx market. All sorts of stuff, but this is completely off topic!
They are not making money because the fed bought the bond from them, as you are saying they are making money because of the stance of the monetary policy which is completely independent of who is getting money first!

You said,
“Now we are debating the SIZE of the benefits….Sumner said there was “NO BENEFITS” and that was a stupid thing to say or believe.”

You must be reading a different blog. What I read was

“”It helps the bond seller because they earn commission on the sale.” That’s actually true, but a trivial gain relative to the size of the monetary injection. Not important in a macro sense, as I think even my opponents would agree.”

“You do realize that not everyone is even physically capable of being primary dealers, even if the market were perfectly competitive, right?

Who’s going to produce the food? Water? Clothing? Shelter?”

Why would that change anything?

“All bonds that the Fed buys are already owned by someone”
Of course not arguing with that.

“The fed can’t buy bonds from someone who doesn’t own any!”
That’s wrong, do you think bond traders or traders in general always own the asset they sell? They are not called market makers for nothing, if the fed wants to buy a bond from a bond dealer in GS, if this bond dealer does not happen to have a bond in his book, he will go into the market and buy one and then pass it on to the fed. He would obviously bid it differently than his offer, but nonetheless the initial person who had the bond is also profiting from this.

“This is wrong. It makes no difference who gets the extra money from the Fed, because the recipient is no wealthier than before (money is swapped for bonds) and hence they have no incentive to spend any more. Rather the impact occurs in the AGGREGATE. Total holdings of the base now exceed total base demand at the current price level, and hence aggregate nominal spending rises (if the injection is permanent.)”

That’s not how markets work. If I go in with $50 billion to buy bonds, it will drive up the price of bonds. The same thing happens with stocks. What do you think would happen to the price of bonds if the Fed came in and sold $1 trillion of Treasury bonds tomorrow? What would happen if the Fed bought $1 trillion of Treasury bonds tomorrow? There would be a huge impact on the price of the bonds and in the bond market as a whole. Not only that, but there would probably be other effects that we’re not even taking into consideration as well. When you print a bunch of money to buy assets, it will have other impacts and the impacts will be very hard to predict because of two factors: the nonlinearity of the market itself and the sensitivity to the initial conditions.

I’m actually for the Fed coming in and buying bonds and other assets. All I’m saying is that we have to be careful with these things because it’s very hard to predict the impacts and the results of what we’re doing and we have to be conscious of it. We also have to be careful exactly how we do these things. We don’t actually understand what we’re doing.

Are there any traders on this blog? Let’s ask a trader what happens to asset prices when you buy a massive amount of assets. When the Fed prints money to buy assets, it’s driving up the price of assets. Not only that, but it probably impacts other markets in ways that we don’t even recognize (like commodities and other things). All of these things are interconnected and the impacts will be extremely nonlinear and hard to predict.

“That’s not how markets work. If I go in with $50 billion to buy bonds, it will drive up the price of bonds. The same thing happens with stocks. What do you think would happen to the price of bonds if the Fed came in and sold $1 trillion of Treasury bonds tomorrow?”

So a few days ago Suvy makes a silly mistake. I devote a whole post to explaining why. Then he writes this, as if he never read the post. Of course if the Fed buys bonds it can affect the price of bonds, I’ve never denied that. I said it makes no difference who gets the money. The price is affected equally if they buy bonds from Fred or Joe. Or if they paid out the new cash to government workers. I’m not seeing many signs in the comment section that people are even reading what I say. It doesn’t impress me when people come over here and suggest I don’t think monetary policy affects the price of bonds.

Also people need to keep in mind that the issue is not whether having the Fed buy X has a different effect from having the Fed buy Y. The effect is different, but that’s not the issue being debated. It’s whether buying X from Fred has a different impact on the macroeconomy from buying X from Joe. Any differences are trivial, reflecting trading profits (which are very small percentage wise in the bond market.) It is not an advantage to get the money first because you have more purchasing power. I also happen to think most of the other effects people are talking about are—in practice—rather small. But my specific claim related to the Sheldon Richman quotation, a mistake I see many people make. I even hate the term “gets the money.” It makes it seem like the Fed gives the money away. If you really want to “get some money” I have a suggestion. Sell some stocks or bonds and take the check to the bank and ask for a wad of $100 bills. Your own private OMO. Then buy up all those goods that the internet Austrians tell us are going to rise in price because of the coming hyperinflation caused by all the monetary injections. Who’s stopping you?

If you think the dispute is about the definition of fiscal policy, then you aren’t paying attention. It’s about whether it matters whether the Fed buys T-bonds from Fred or Joe.

Here’s Kailer:

“I think I understand this now. My first impression was of course the guy that sells the bonds to the fed must benefit, otherwise why would he sell the Fed bonds in the first place. But what your saying is this guy just wants to sell his bonds, whether it be to the market or the Fed. He may choose to sell it to the Fed rather than the market, because its more convenient to sell to one buyer like the Fed, or maybe there’s lower transaction cost, but whatever premium this guy is getting over the market it’s likely to be very small relative to the size of the purchase, which itself is small relative to the bond market, such that this small profit that leads him to prefer selling to the Fed couldn’t possibly have any macro consequences.
It’s still effective policy however, because money is so much different than bonds. Maybe not so much to the initial buyer, since he can easily borrow with bonds as collateral. But it’s important to the economy, because when that guy borrows on the bonds it just transfers money between people, whereas in this instance the guy gets his money, which means the guy he would have borrowed it from is free to lend his money to someone else,or buy donuts, or line his mattress with it…wait scratch that last one. So the important thing is that it frees up that extra bit of money for something else. Put another way the important thing is that there is now more money. Is that the jist? Money creation as a concept has always hurt my brain.”

He gets it. I guess the key is to keep rereading my posts until your brain hurts.
🙂

Away from the zero lower bound, it is obvious that Fed buying drives up the price of bonds. If the Fed were interest rate targeting, that would, in fact, be the point of OMO. Higher bond prices make lower yields.

So, yes, Fed buying benefits the holders of Treasury securities before it benefits anyone else. But that isn’t the professor’s point.

What the professor has said is that it doesn’t matter who the Fed buys those Treasury securities from. It could buy the securities from a bank, an insurance company, Bill Gates, or a large collection of little old ladies who have put their life savings in T-bills. No one has a special benefit for having newly created cash in their accounts vs. the Treasuries that that cash replaced. All holders of that slice of T-securities benefit from the price rise, whether they were the ones the Fed bought from or not. Treasuries are liquid. Any holder of T-securities could sell their holding to the dealer that sold to the Fed at a price very near to the price that the Fed paid. The dealer the Fed worked with makes a very small gain on the sale, relative to the size of the transaction, due to the bid/offer spread.

I don’t think that this point is particularly insightful. But, then again, the Professor says from the beginning that this should be blatantly obvious. So, I don’t think he thinks it is all that interesting either.

Regardless of whether the Fed buys T-notes from a bank, and non-bank financial company, or little old ladies, the proceeds of the sale will nonetheless be in a bank account, become bank reserves that the bank can lend against, increase the money supply, and increase NGDP. Those that are not Treasury holders might get some benefit out of the transaction, too.

[…] Tyler Cowen jumps in on the side (?) of Sumner and Rowe (HT2 Max R.), regarding Cantillon effects. (Here Sumner is much clearer–to Austrian readers–about what his position has been all along.) Gene Callahan makes […]

Suvy, it’s difficult to understand the point you are tying to make. If you read Professor Sumner’s previous post, he states pretty clearly the impact on bond prices:

“”It helps bond holders because it drives up the price of bonds.” That might be true or it might be false. But even if it is true, the price of bonds rises due to what’s called the “liquidity effect,” which will occur regardless of who gets the new money.”

You said:
“When you print a bunch of money to buy assets, it will have other impacts and the impacts will be very hard to predict because of two factors: the nonlinearity of the market itself and the sensitivity to the initial conditions.

This is vague, what are you trying to say, that the Fed will be financing a bond bubble? What are you saying the impact on NGDP and employment will be?

What the Fed buys on the asset side of its balance sheet – gold, short end Treasurys, long end Treasurys, or mortgages – is not all that interesting, for the reasons that Scott outlines. It’s simply a transaction at market prices, and carries no further obligation from the Fed. Recall that falling yields are a sign of Fed failure, not success.

What is profoundly interesting is the liability side, the Fed obligations – the Fed has to make good on delivering physical currency on its already-created reserves, if the commercial bank so demands. In a zero-interest-rate world, why not own more physical currency (base money) and less debt (a yield-bearing derivative on base money)? IOR was installed to solve this problem and keep bank assets in reserves, rather than to move into currency.

The explosion in reserves – not Treasury or mortgage purchases – kept the commercial bank world afloat, and separated the banks from the consequences of their actions. The Fed’s bailing out of banks via handing them reserves (Fed liability) kept the banks as going concerns. This is the “getting the money first” phenomenon – courtesy of the Fed, these re-capitalized banks survive to pick up the abundant deflated assets, and so are the vector for reflation by their creating claims on real assets. They do so via a book entry – lend and get a claim on real asset security – and simply mark a liability to deliver base money (currency) on demand (which does not happen so much in electronic practice, as they simply open up a checking account for the borrower).

The “How the Rich Rule” piece conflates the asset- and liability- sides of the Fed balance sheet: “When the Federal Reserve System wants to expand the money supply to, say, juice the economy, it buys those bonds from banks and security dealers with money created out of thin air.” alongside “Meanwhile the banking system has the newly created money, and therein lies another way in which the well-off gain advantage at the expense of the rest of us.”

I’m not sure that the essential message is incorrect, however. On the Fed liability side, banks get capital and base money is diluted – the asset side is somewhat uninteresting. “Since Fed-created money reaches particular privileged interests before it filters through the economy, early recipients””banks, securities dealers, government contractors””have the benefit of increased purchasing power before prices rise.”

If banks are not the “early recipients” of bank excess reserves – which is their whole function and economic-simulative purpose – what are they?

[…] Tyler Cowen jumps in on the side (?) of Sumner and Rowe (HT2 Max R.), regarding Cantillon effects. (Here Sumner is much clearer–to Austrian readers–about what his position has been all along.) Gene Callahan makes […]

“Fiat money, central banking, and deficit spending foster and reinforce plutocracy in a variety of ways. Government debt offers opportunities for speculation by insiders and gives rise to an industry founded on profitable trafficking in Treasury securities. That industry will have a profit interest in bigger government and chronic deficit spending.

Government debt makes inflation of the money supply an attractive policy for the state and its central bank””not to mention major parts of the financial system. In the United States, the Treasury borrows money by selling interest-bearing bonds. When the Federal Reserve System wants to expand the money supply to, say, juice the economy, it buys those bonds from banks and security dealers with money created out of thin air. Now the Fed is the bondholder, but by law it must remit most of the interest to the Treasury, thus giving the government a virtually interest-free loan. With its interest costs reduced in this way, the government is in a position to borrow and spend still more money””on militarism and war, for example””and the process can begin again. (These days the Fed has a new role as central allocator of credit to specific firms and industries, as well.)

Meanwhile the banking system has the newly created money, and therein lies another way in which the well-off gain advantage at the expense of the rest of us. Money inflation under the right conditions produces price inflation, as banks pyramid loans on top of fiat reserves. (This can be offset, as it largely is today, if the Fed pays banks to keep the new money in their interest-bearing Fed accounts rather than lending it out.)

But the Austrian school of economics has long stressed two overlooked aspects of inflation. First, the new money enters the economy at specific points, rather than being distributed evenly through the textbook “helicopter effect.” Second, money is non-neutral.

Since Fed-created money reaches particular privileged interests before it filters through the economy, early recipients””banks, securities dealers, government contractors””have the benefit of increased purchasing power before prices rise. Most wage earners and people on fixed incomes, on the other hand, see higher prices before they receive higher nominal incomes or Social Security benefits. Pensioners without cost-of-living adjustments are out of luck.

The non-neutrality of money means that price inflation does not evenly raise the “general price level,” leaving the real economy unchanged. Rather, inflation changes relative prices in response to the spending by the earlier recipients, skewing production toward those privileged beneficiaries. Considering how essential prices in a free market are to coordinating production and consumption, inflation clearly makes the economic system less efficient at serving of the mass of consumers. Thus inflation, economist Murray Rothbard wrote, “changes the distribution of income and wealth.”

Price inflation, of course, is notorious for favoring debtors over creditors because loans are repaid in money with less purchasing power. This at first benefits lower income people as well as other debtors, at least until credit card interest rates rise. But big businesses are also big borrowers””especially in this day of highly leveraged activities””so they too benefit in this way from inflation. Though banks as creditors lose out in this respect, big banks more than make up for it by selling government securities at a premium and by pyramiding loans on top of security dealers’ deposits.

When people realize their purchasing power is falling because of the implicit inflation tax, they will want to undertake strategies to preserve their wealth. Who’s in a better position to hire consultants to guide them through esoteric strategies, the wealthy or people of modest means?

The result is “financialization,” in which financial markets and bankers play an ever larger role in people’s lives. For example, the Fed’s inflationary low-interest-rate policy makes the traditional savings account useless for preserving and increasing one’s wealth. Where once a person of modest means could put his or her money into a liquid account at a local bank at about 5 percent interest compounded, today that account earns about 1 percent while the consumer price index rises at about 2 percent. Savers thus are forced into less liquid certificates of deposit or less familiar money market mutual funds (which arose because in the inflationary 1970s government capped interest on savings accounts). Fed policy thus increases business for the financial industry.

Inflation is also the culprit in the business cycle, which is not a natural feature of the market economy. Fed policy aimed at lowering interest rates, a policy especially favored by capital-intensive businesses remote from the consumer-goods level, distorts the time structure of production. In a free market, low interest rates signal an increase in savings, that is, a shift from present to future consumption, and high rates do the reverse. Behold the coordinative function of the price system: deferred consumption lowers interest rates, making interest-rate-sensitive early stages of production””such as research and development, and extractive industries””more economical. Resources and labor may appropriately shift from consumer goods to capital goods.

But what if interest rates fall not because consumers’ time preferences have changed but because the Fed created credit? Investors will be misled into thinking resources are newly available for early-stage and other interest-rate-sensitive production, so they will divert resources and labor to those sectors. But consumers still want to consume now. Since resources can’t be put to both purposes, the situation can’t last. Bust follows boom. Think of all those unemployed construction workers and “idle resources” that were drawn to the housing industry.

While some rich people may be hurt by the recession, they are far better positioned to hedge and recover than workers who are laid off from their jobs. Moreover, even after the recovery, the knowledge that the threat of recession looms can make the workforce more docile. The business cycle thus undermines workers’ bargaining power, enabling bosses to keep more of the fruits of increased productivity.

Bottom line: inflation and the business cycle channel wealth from poorer to richer.”

Whatever Sheldon Richman is saying here, he did NOT say what Scott Sumner has been reading him to say.

Sumner can’t come up with a competent, charitable, non-perverse reading of Richman because he refuses to make himself familiar with either the contemporary peer reviewed scientific literature on this topic or some of the most influential and significant works in economic science ever published on this topic.

Why Sumner makes this choice, and how he possibly thinks it is scientifically or ethically respectable to continue to invent his own fallacious ertzats ‘Austrian’ macro having nothing to do with anyone’s actual published work, and based on anonymous blog comments and rhetorical journalism, is the great puzzle.

A competent background understand of Scott’s would have stopped this long absurd conversation on false premises before it ever because.

It’s Scott’s incompetence with the material at hand which continues a time-wasting conversation.

The whole thing would be brought to an end if Scott had spent the time mastering a bit of scientific literature, rather than wasting everyone’s time with the simple mistakes of uncharitable readings resulting from Scott’s manifest and self acknowledge dearth of understanding of the topic at hand.

I think you’re barking up the wrong tree with MF – he’s not interested in practical and meaningful incremental compromise. That is, however, a benefit to public debate in helping to dissolve any monopoly on the market place of ideas. We’ve come a long way from the days where all the casual exposure to ideas most people had was a few broadcast channels on TV and a variety of news print – mostly all sellouts to big government. I don’t necessarily agree with MF’s economics, but I do agree with him on many other things that a decade or so ago I probably wouldn’t have. As long as he and people of similar sentiment can keep tugging the debate in that particular direction, society as a whole may gravitate that way little by little. If you think about it, there really isn’t much difference between Sumner and MF at very high level. They both agree there is something wrong with the Fed. The difference is the wide chasm of opinion on how to solve it. I hope that sooner rather than later the political system gets it from so many people saying the same high level things and figures out a way to fix it so that they are palatable to most – that is the most important thing and people like MF do play a role in that just as they are.

George, you are wrong. It isn’t about whether the first person in the trade benefits a massive amount.

This ENTIRE SUBJECT IS DONE. Scott has wrapped his head around the idea that Fiscal and Monetary are combined in the minds of those he was arguing with, and he has dialed back to try and protect his classical view on MP.

I don’t think Scott can actually draw that line, and it is EASIEST to stop saying “If the fed bought tacos…” and instead go with a policy agenda “If the Fed ran NGDP futures as a profit losing venture for SMB owners…”

At that point, we are now FORCING the discussion to be Fed as Fiscal policy, and are able to make Scott argue for T-Bills.

This not argument when the other side is saying, “we don’t care about x,y, z the most – it is not the voting issue.”

2. Freedom and Liberty REQUIRES establishing a rule set that admits the capitalists will try to curry government favor, and government will try to provide it to highest bidder… and WRITES BASIC DNA to keep it from occurring.

We should start off with: the optimal system for freedom and liberty is a tax code / regulatory environment that makes the top 10% best and brightest of every graduating class ALL WANT TO OWN AND RUN A SMB.

OK, so now that we have the measuring stick, we just keep slanting the playing field until most folks WISH they could run a SMB, but know they can’t compete with the guys who do.

Yes, this means increasing taxes and regulatory burden as companies becomes larger. But that is a good thing.

Let’s say that whenever a new regulation is passed by Congress, the CBO figures out what the cost of compliance is going to be for SMBs, and then hands that tax bill to the non-SMBs.

Now we have the large companies, the bootleggers, as the staunchest opponents of regulations and government (AS THEY SHOULD BE) and the SMB’s they become advocates for good regulations…

The fact is, the Internet makes vertical integration easy enough, that pricing power benefits, that normally accrue to stockholders, can be spread out over many little greedy middlemen.

3. Being big isn’t a sin. BUT big government is a NEGATIVE EXTERNALITY of big business, and as such 100% of the costs of big government should fall on big business.

Bonny, until MF rolls up his sleeves and starts formulating policy proposals that can make marginal improvements he’s worthless.

I learned ALL his arguments when I was 14 years old.

I’ve been debating online libertarian theory since there has been an online and if you are going to create Bitcoin, Pirate Bay, Bit Torrent, then you get a pass and can spout simple shit all you want.

If you are going to go create some kind of civilian incident “Risk my very valuable life by building a paramilitary compound and declaring myself sovereign, and refuse to pay protection money to the gang of crooks in Washington, and then use defensive force against any hired goon who comes “knocking” and tries to kidnap me?”

then you get a pass…

But today, tomorrow and the next, the Fed will be HERE, and they will be buying SOMETHING.

And we have an army of complainers, but few who are willing to dirty up their Sunday dickey with political monkey wrenches meant to alter the things towards a free market.

NGDPLT is such a thing.

And tilting the playing field to favor SMBs is another.

And frankly, I judge how much someone loves something, but what else they are willing to sacrifice to get it.

Lastly, MF and Sumner are not the same.

Scott is hacking something out, that improves the system toward liberty and freedom, it isn’t perfect, to be sure… Scott’s moral dickey is plenty dirty.

“It makes no difference who gets the extra money from the Fed, because the recipient is no wealthier than before (money is swapped for bonds) and hence they have no incentive to spend any more. Rather the impact occurs in the AGGREGATE.”

No. You are confusing an event in time and a flow.

“It makes no difference who gets the extra money from the Fed, because the recipient is no wealthier than before (money is swapped for bonds).”

This sentence is embarrassing. It sounds like you are claiming that primary dealers don’t make more money on buying bonds than secondary dealers (When in fact they do, which is why they work very hard and pay lots of money to be primary dealers). Its really embarrassing to hear this from an economist of your repute.

Second of all, are you claiming that banks make no money off of signorage when they create new bank-created money? Again, thats an embarrassing statement to hear from a monetarist of your calibre.

If it doesn’t matter who the buys bonds from why would it matter who the fed bought bananas from ? If they paid market price then all banana holders (whether they decided to sell or hold) would benefit.

Also: Why does the fact that all holders of a good benefit equally when someone drives the market price up mean that Cantillon effects don’t exists. Whether the fed buys bonds or bananans if the holders of these goods end up richer as a result then there will be Cantillon effects. And I don’t see what difference it makes if these effects are categorized as fiscal policy.

So a few days ago Suvy makes a silly mistake. I devote a whole post to explaining why. Then he writes this, as if he never read the post. Of course if the Fed buys bonds it can affect the price of bonds, I’ve never denied that. I said it makes no difference who gets the money. The price is affected equally if they buy bonds from Fred or Joe. Or if they paid out the new cash to government workers. I’m not seeing many signs in the comment section that people are even reading what I say. It doesn’t impress me when people come over here and suggest I don’t think monetary policy affects the price of bonds.

You are in no position to complain about Suvy not reading your posts. I explained to you why you are wrong about this particular issue and yet you keep writing as if you never read my posts.

It is, again, not true that the price of t-bonds would be equally affected if the Fed bought cars or gold instead of t-bonds. This is the case even if you want to hold Treasury spending constant, such that should the Fed buy cars or gold instead of t-bonds, the Treasury issues more t-bonds.

The difference between these two cases is that should there be a decline in prices of t-bonds in both cases, then the decline in the case of buying t-bonds is less than the decline in the case of buying cars or gold. Similarly, should there be an increase in the price of t-bonds, then the increase in the case of buying cars or gold is less than the increase in the case of buying t-bonds.

There is absolutely no reason why, if the Fed buys cars or gold instead of bonds, and the Treasury issues more bonds as a reslt, that bond investors would spend what the Fed would have spent. There is an additional premium added to bonds merely by virtue of the Fed adding a nominal component to them by buying them. It absolutely matters that bond investors receive the new money instead of car or gold sellers. The market does not mimic the Fed if the Fed ceases to buy bonds.

Also people need to keep in mind that the issue is not whether having the Fed buy X has a different effect from having the Fed buy Y. The effect is different, but that’s not the issue being debated. It’s whether buying X from Fred has a different impact on the macroeconomy from buying X from Joe.

No, the debate was never about any impact on the “macro-economy.” The debate was about the Cantillon Effects that arise with inflation into specific points in the economy. You denied that this effect takes place when the Fed buys bonds from the market, but accepted that this effect takes place when the Fed buys cars or gold.

Any differences are trivial, reflecting trading profits (which are very small percentage wise in the bond market.) It is not an advantage to get the money first because you have more purchasing power.

This is incorrect. When you are the first receiver of new inflation money, you receive more money than you otherwise would have received, ceteris paribus. This is because the Fed is adding a nominal demand component to the supply and demand pricing of X.

Now, even if bond investors price in an inflation premium on bonds when the Fed buys bonds, thus making the price decline over time, this does not imply that that there are no Cantillon Effects in the t-bond market.. In these situations, the decline in bond prices when the Fed buys t-bonds is less than it would be compared to if the Fed bought cars or gold.

Imagine you held a zero coupon Sumner bond, and the current market price is $90 (principle $100). Let’s compare two scenarios:

1. The Fed promises to print money and buy gold at the market price. This will generate consumer price inflation, and reduce the market price of your bond because of investors pricing in an inflation premium.

2. The Fed promises to print money and buy your bond at the market price. This will generate consumer price inflation, and reduce the market price of your bond because of investors pricing in an inflation premium.

If you can understand that the decline in price in scenario 2. will be less than the decline in price in scneario 1., then you should, finally, understand that the Fed does increase the price of bonds depending on who they buy from, and this is the case even if we hold your spending constant.

I also happen to think most of the other effects people are talking about are””in practice””rather small.

Nobody asked for our opinion on what you think the adjective should be used to describe this non-zero quantity. I happen to think it’s very substantial, but that is irrelevant. What is important is that they exist, and they are positive.

But my specific claim related to the Sheldon Richman quotation, a mistake I see many people make.

Your specifc clam about Richman’s specific quotation, is wrong, as I have shown in other threads that you seem to be forgetting so quickly.

I even hate the term “gets the money.” It makes it seem like the Fed gives the money away.

Indeed they are. Since the price of t-bonds would otherwise be lower if the Fed were not purchasing them with money created out of thin air, those who are buying them at inflated prices, and selling them at even greater inflated prices to the Fed, since after all the Fed is constantly buying ever more t-bonds, then that difference is a gift.

If you really want to “get some money” I have a suggestion. Sell some stocks or bonds and take the check to the bank and ask for a wad of $100 bills. Your own private OMO. Then buy up all those goods that the internet Austrians tell us are going to rise in price because of the coming hyperinflation caused by all the monetary injections. Who’s stopping you?

Oh that’s mature. I’d rather read “internet Austrians” who not only predicted the housing collapse (which is going beyond Austrian economics per se) and explaining why it occurred, than “internet market monetarists” who couldn’t predict it, and can’t explain it.

At any rate, withdrawing cash isn’t even an OMO, because withdrawing cash is not receiving new money. It is taking possession of money that already exists, but in a different form. When the Fed buys bonds, it is creating new money that did not exist before, and this money benefits the initial receivers, the same way you would benefit the initial receivers if you printed dollars in your basemen, even if you held your “fiscal policy”, i.e. spending, constant.

If you think the dispute is about the definition of fiscal policy, then you aren’t paying attention. It’s about whether it matters whether the Fed buys T-bonds from Fred or Joe.

Notice how you again moved the goalposts. Now you are just saying that all along you only wanted to say that one primary dealer isn’t getting any special benefit relative to another primary dealer. Keep digging that hole!

The debate was about whether THE PRIMARY DEALERS vis a vis the rest of the market are benefiting from selling bonds to the Fed. THAT is what you goofed on, which you are now deftly trying to claim was never the issue.

OK, let’s address your latest diversion. If the Fed buys t-bonds from Fred and not Joe, then guess what? The price of the t-bond would be different for Fred than it is for Joe. This is because Fred has a guaranteed backstop from the Fed, whereas Joe does not. Fred is akin to a AAA bond seller, and Joe is akin to a junk bond seller. A major reason why t-bonds are yielding such a relatively lower yield than the very best AAA private bonds, is because the Fed is buying bonds and not AAA private bonds.

Here’s Kailer:

“I think I understand this now. My first impression was of course the guy that sells the bonds to the fed must benefit, otherwise why would he sell the Fed bonds in the first place. But what your saying is this guy just wants to sell his bonds, whether it be to the market or the Fed. He may choose to sell it to the Fed rather than the market, because its more convenient to sell to one buyer like the Fed, or maybe there’s lower transaction cost, but whatever premium this guy is getting over the market it’s likely to be very small relative to the size of the purchase, which itself is small relative to the bond market, such that this small profit that leads him to prefer selling to the Fed couldn’t possibly have any macro consequences.

It’s still effective policy however, because money is so much different than bonds. Maybe not so much to the initial buyer, since he can easily borrow with bonds as collateral. But it’s important to the economy, because when that guy borrows on the bonds it just transfers money between people, whereas in this instance the guy gets his money, which means the guy he would have borrowed it from is free to lend his money to someone else,or buy donuts, or line his mattress with it…wait scratch that last one. So the important thing is that it frees up that extra bit of money for something else. Put another way the important thing is that there is now more money. Is that the jist? Money creation as a concept has always hurt my brain.”

He gets it. I guess the key is to keep rereading my posts until your brain hurts.

If you agree, then you again contradicted yourself when you denied the Cantillon Effects exist for t-bond purchases.

Now quick, change the subject once again, maybe next you’ll say the debate was always about whether the same primary dealer benefits on Tuesday as opposed to Wednesday.

What I said isn’t simple. It’s a recognition of how our system was designed to work. So many people are now intent on instant gratification when change of pace is no quick business with political power vested in multitudes who vote and changes in attitude are reflected in the politicians one election at a time – that is what it means to be a self-governing society. It can take decades of persuading to get a solution to a problem, only to achieve a mild and temporary arrest. You know why? If you’ve read Capitalism and Freedom you probably understand that patience is a virtue – as no body understood that better than Friedman.

Whether you admit it or not, MF is your ally in persuasion. You both have specific plans and they differ in substance but not necessarily in fact. If you don’t understand that, you haven’t been reading what he says. You both want a way to cap government. He wants a gold standard, you want more strict NGDP growth. The problem is that both your proposed NGDP growth level and the gold standard result in the money supply being used as a political football to which I solidly object because in both cases people either have to agree with you or they get hosed economically by design – built in eye for an eye with innocent people caught in the cross fire. And for what it’s worth, neither plan has a snowball’s chance in the big hot place without a drastic change in public opinion. I might have libertarian leanings, but I am still a small d democrat and the truth matters.

There are so many ways of explaining how the Cantillon Effect applies in a context of t-bond purchases. Another way is by considering those people whose incomes do not instantly rise when the Fed inflates money into the banks. If one can understand that those people are relatively worse off, then the obvious question to ask is who are relatively better off? Obviously if the Fed is purposefully buying, and the primary dealers are purposefully selling, and this generates losses for those whose incomes cannot instantly rise in response, then then obviously those losses are due to gains accruing to others whose incomes do rise. And whose incomes initially rise because of inflation? The initial receivers of course.

Scott, I think you are wrong when you say “It makes no difference who gets the extra money from the Fed, because the recipient is no wealthier than before (money is swapped for bonds) and hence they have no incentive to spend any more.” With heterogeneous buyers, with different reservation prices, different “producer surpluses” retained, and different post-transaction plans for “more liquid” money obtained, relative prices must be impacted. Wealth as you define it may not have changed, but liquidity has.

Let’s abstract for a moment from the primary dealers and the SOMA portfolio auctions and just consider the increased quantity demanded of Treasuries due to the Fed. It might be that one seller who’s reservation price was not met at pre-Fed action prices, is met at post-Fed action prices. Maybe they were saving for a house and their gain, now makes this possible. This impacts the relative price of houses.
On a related note, see the following paper for a fairly neoclassical, non-Austrian simulation of the Cantillon effect: http://www.buseco.monash.edu.au/eco/research/papers/2012/1212cantilloneffectchengangus.pdf
“The Cantillon Effect of Money Injection Through Deficit Spending”; Cheng and Angus; December 2012.
In this paper they generate Cantillon Effects via wage stickiness, but leave the door open to other sources. They assume long-run neutrality, but fine short-run effects. They seem to think Cantillon Effect is real and can harm or hurt first receivers. Here’s the abstract:
This paper develops a simple dynamic model to study some of the implications of Cantillon’s
insight that new money enters an economy at a specific point and that it takes time for the new
money to permeate the economy. It applies a process analysis and uses numerical simulations to
map out how the economy changes from one period to the next following a money injection. It finds that, within the region of stability, a money injection can generate oscillating changes in real variables for a considerably long period of time before converging back to the initial steady state. It also finds that a money injection benefits first recipients of the new money, but hurts later recipients and savers. Our simulation suggests that in our model savers can lose from a money injection even if they are first recipients of the new money.

“So a few days ago Suvy makes a silly mistake. I devote a whole post to explaining why. Then he writes this, as if he never read the post. Of course if the Fed buys bonds it can affect the price of bonds, I’ve never denied that. I said it makes no difference who gets the money. The price is affected equally if they buy bonds from Fred or Joe. Or if they paid out the new cash to government workers. I’m not seeing many signs in the comment section that people are even reading what I say. It doesn’t impress me when people come over here and suggest I don’t think monetary policy affects the price of bonds.”

It does matter how the money is injected. I’m of the belief that asset markets and the market for goods and services work relatively independently of each other. When you print money to buy assets, the people who get the money are more likely to buy assets rather than spend it on goods and services. If you buy a T-bill from someone, I would think that they would spend the money to buy something similar to a T-bill; like assets over goods and services.

As for the government handing out cash to workers; the biggest difference between fiscal policy and monetary policy is that fiscal policy can be used to produce more. Right now, we have 12 million people unemployed. That’s a resource that just isn’t being put to use. Why not put it to use? Can a central bank come in and employ these people to produce something? Of course not. However, if we have 12 million people unemployed, we could use those people to build infrastructure and on public works. I think that spending money in infrastructure and public works is a much better alternative than spending money on things like Social Security and other forms of welfare.

Let’s dissect a sentence of what you wrote.
“The price is affected equally if they buy bonds from Fred or Joe. Or if they paid out the new cash to government workers.”

Here’s a simple example of what I’m talking about. Suppose you have two alternatives, you could buy $1 trillion of T-bills from hedge funds/banks or you could give $1 trillion dollars to households(some of whom happen to be highly indebted). Are you really saying that it doesn’t matter who gets that money first? Are you saying that the impact on prices would be the same if you gave the money to households vs banks/hedge funds? I think that’s absurd. Hedge funds/banks would be much more likely to use the money on assets while households would be much more likely to use the money to either pay down debt or spend it on goods and services. What do you think would impact the price of cars more, giving the money to hedge funds or giving the money to households?

It seems to me that at the least it matters from the standpoint of individuals who gets the money first.

If the Fed were going to send money to indivudals rather than financial insitutions it’s more apparent. If the Fed decides that it’s going to spend to print and send out $1 million today giving 100 people $10,000 each, while it represents the same amount of money aggregately, obviously the 100 who received it are better off, even if the aggregate econonmy has the same net extra $1 million regardless of who the lucky 100 are-I used small numbers to keep it simple.

When money is injected into the economy it’s effect is not wholly even.

Take another example, the S&P 500 has been up over 100% since it’s bottom in 2009. How much of this increase can actually be explained by fundamentals? Maybe a little bit of it can, but not all that much. By historical standards, equity markets are overvalued(I’m using CAPE, but I think other measures like the Q ratio show the same thing). Could this possibly have anything to do with QE1, QE2, QE3, and Operation Twist? There’s a very realistic possibility. However, if we took all of that money that was printed and gave it to households, would equity markets have gone up as much? I don’t think so. I think more of that money would have been used to pay down debt and I think you would also see a different effect on CPI and the price level of goods and services.

Richman must be assuming that the creation of new fiat money by the monetary authority is always unexpected, so that (as he puts it) it “favor[s] debtors over creditors because loans are repaid in money with less purchasing power”: obviously he is assuming that this outcome was not anticipated by the creditors when they made the loan. His view seems to be that, while the (wholly unexpected) creation of the new money *ought* immediately to reduce the value of each monetary unit (assuming there is no change in the desire to hold real money balances), in practice the reduction in value takes place only gradually; and so long as this disequilibrium condition persists, the holders of money are *unfairly advantaged*: the buying power of their money is greater than it *should* be.

Richman does not notice that this unfair advantage belongs to all holders of money, not just to the holders of the new money. He makes buying goods for new money under conditions of inflationary disequilibrium seem akin to *fraud*, not noticing that he should take this view of *all* purchases for money, not just those involving new money.

Considering just the case where new money is created as a one-off occurrence, the unfair advantage of money holders will decline over time, reaching zero when prices have risen to their equilibrium level. An early seller of a good””early, that is, in the process of price adjustment–will have been taken advantage of; the money he received will have a *true* value of less than the good he sold, the *true value* of the money being what its purchasing power *should be*. But the quicker he buys something with the money he receives, the smaller will be his actual loss: prices will not have risen much in a very short time interval. Only people who hold money for a long time will suffer a substantial loss due to inflation. And note that the original recipients of the new money””Richman’s “banks, securities dealers, government contractors”(1)””would gain no unfair advantage if they *held* the money. The profiteers from Richman’s generally-unexpected inflation will be those few who see it coming; they will profit from macroeconomic “knowledge,” rather than from any early transactions they might make with the monetary authority. The real losers from unexpected inflation are those who are slowest to catch on to it, as well as those who cannot raise quickly the prices they charge for their goods or services.

Of course, the truly original holder of the new money, before it was even used to buy government bonds, is the monetary authority, which really does gain greatly from creating the money. But this is just seigniorage; we didn’t need Richman to tell us about *that*.

(1)But paying contractors would be *fiscal* rather than *monetary*. And if payments to contractors are to be mentioned, so should have been payments of wages to government employees.

Just for the record, George Selgin, I don’t hold you up as an authority on the economics of Friedrich Hayek or as an expert on reading Sheldon Richman with charity and in context.

I simply hold you up as someone worth discussing money and credit with with familiarity with the general domain of issues Scott considers to be in some fashion “Austrian”. (Scott as he repeatedly tells us knows no Austrian economics.)

I know you don’t like the label, but I’d much rather learn from Scott discussing you, that wasting my time pointing out another instance where Scott is inventing phantoms to shadow box whilw erroneously thinking he is engaging Hayek’s macro, work Scott *himself* tells us he does not know.

(*Yes*, I used emphasis. It’s part of the written English language.)

George Selgin writes,

“As my name has been invoked as someone who should be “engaged” in this discussion, I suppose I might indicate that I agree with those persons above who are least inclined to capitalize entire words.”

I’ve now become curious about the particulars of George Selgin’s agreement with Scott Sumner on the instantaneous nature of coordination in the money and credit markets, and the lack of possible gains from trade because of that.

And I’m wondering why George’s Sumnerian position leads him to advocate for Free Banking while Scott from the very same position does not advocate for NGDP targeting operated by a central bank.

And how does Free Banking work is there is instantaneous coordination in the money and credit markets and no possible gains from trade in those markets.

Or am I not reading Scott and George with charity? Perhaps I’ve ascribed views to them they that do not hold.

Scott, Actually the Austrians that I’ve heard always make a slight variation on this argument – they say that money is ‘gloopy’ like treacle so if the central banks buys assets from the financial sector during QE, the money will somehow ‘stay there’ before distributing to the rest of the economy. See for example this English MP (!):

‘What if it is like treacle or honey? What if it builds up in piles when poured into the economy and takes a while to spread out?’

I’m not sure that makes any more logical sense, but I think the implication is that if money goes to the financial sector it will help the sector not the individual asset holder. It probably is possible to have some (small?) aggregate effects within the financial sector.

“It makes no difference who gets the extra money from the Fed, because the recipient is no wealthier than before (money is swapped for bonds) and hence they have no incentive to spend any more.”

Funny. That is what I always thought, too.

But then, how is this compatible with the “Hot Potato Effect” that is supposed to drive inflation etc in a monetary expansion?

I was always under the impression that no, people would not suddenly start to spend money (on consumer goods), driving up real economic activity, if the Fed suddenly increased their money holdings at the expense of their savings (in bonds, treasuries, whatever). Nick Rowe and Scott Sumner seem to have a different idea, since they say that an increase in the monetary base would drive up aggregate demand and increase economic activity.

I cannot reconcile this with Scott’s statement above. Here we have a situation in which obviously exactly this happens (and the primary dealers are the only actors this ever happens to in reality, since nobody else is obliged to offer up his treasuries for sale in a Fed auction, so that he can end up with more base money than he wants to hold): Somebody suddenly has more money than they want to hold. So according to the hot potato theory, should they not want to spend more now? Why is it different here?

As for the main point of contention: I agree with Scott that it does not make (much of) a difference from whom the Fed buys a treasury. But then, I do not understand Richman to have said that. I think this is really missing his broader point, which is that it matters that the Fed buys treasuries, or lately MBS, and not other things. Scott seems to agree with this, so I do not understand what is criticism really is.

There are lots of other points in Richman’s article that I would take issue with, but the fact that it benefits people who hold treasuries (and the government that issues them) that the Fed makes a market in treasuries is not among them.

One more point I want to make regarding Scott’s assumptions: He seems to say that liquidity as such does not matter and does not confer any advantage on anybody, since he assumes that everybody is liquid anyway. This in my opinion misses a huge part of the effects of central bank operations, since they obviously inject liquidity.

Scott writes in the other post:

“If I heard about the Fed’s new OMO, and thought gold prices would rise gradually in response, I’d simply call up my broker and buy some gold. What if I don’t have any currency? I’d charge the purchase on my credit card. What if it was some product you could only buy with cash? Then I’d simply get money from an ATM machine, or a bank, and make the purchase.”

So he is of course right in a sense that it does not confer any advantage “if you get the money first” if you already *are* a person that has sufficient liquidity to speculate on the coming inflation and to take advantage of the rising prices of *some* goods relative to others (exactly the effects at issue here, no?). So of course, if nobody was liquidity-constrained, and if everybody had a broker they could call up, and if everybody actually had the time to keep up with the financial markets, sure, then it really would not matter.

But obviously this is not true: There are many people who are indeed liquidity and credit constrained (would there be check cashing businesses and loan sharks and payday lenders otherwise), or who have only very little savings and cannot afford to invest in speculative assets, since this is too risky for them.

These people of course first experience rising prices, and their paycheck is only adjusted at the next renewal of their wage contract, one year down the road, so they are hurt by rising prices, but not in a position to take advantage by getting in on the asset market early.

I cannot see how one can deny that these effects exist, and that they affect many (likely the majority) of people in the economy.

So sure, I think Richman is entirely right when he says:

“Fed-created money reaches particular privileged interests before it filters through the economy”.

For everybody who is liquidity- or credit-constrained, this is obviously true. That’s perhaps not Scott Sumner (who can call up his broker and buy on credit to get in early in the rising prices at the asset market, even though he is not a primary dealer), but there are enough people for whom it holds.

*(perhaps not true if markets have rational expectations that the government will wind down its bond purchases – but this doesn’t appear to be the case, at least according to evidence I have read from the Bank of England)

**(it may, by overcoming nominal rigidities, but allowing for that makes the argument more complex and doesn’t necessarily change the conclusion – and it’s obvious where it would change the conclusion)

Have I got something wrong in the above (I’m extremely open to that possibility), or is my point completely cross purposes to the discussion.

Scott is clearly right on this, as I explained on an earlier thread. But I’m still trying to understand the objections. Is it the tiny margin on bonds that primary dealers make? If instead, the Fed simply logged onto Treasury Direct and bought and sold bonds directly from the Treasury would that solve the issue in your eyes?

Then, of course, the monetary base would expand by the Treasury selling less bonds to the public than otherwise.

One more point, to make it obvious that banks are indeed privileged by the way central bank operations are performed, and how (in the U.S.) the treasury/government/the public benefit, as opposed to Europe, where the policies are stupid:

The European Central Bank does not do “open market operations” as such, in fact, they are prohibited from directly buying government securities (because of the stupid Germans). Instead, they lend at a sort of discount window, offer a deposit facility (interest on reserves), and auction of “limited tenders” (fixed duration reserve loans).

They do not make a market in government securities. So what happens? The ECB auctions off a limited tender at, what, 0.3% interest at the height of the Euro and banking crisis, to provide liquidity to the banks, and the banks use the money to buy Greek and Spanish bonds at 5%.

This is *obviously* a huge windfall to the banks, because they have access to liquidity from the Central Bank, as opposed to the rest of us.

At the same time, this of course leads to higher inflation (not that that is a bad thing, under the circumstances, but that is not the point at issue here), since it is in effect a direct monetarization of government debt by the central bank, so it hurts everybody else who does not get a free profit above inflation.

Already from comparing this to how things work in the US, you see that there are very different distorting effects from the new money creation, just from the differences in which the central banks in both cases inject liquidity.

By buying treasuries directly in the secondary market, the Fed subsidizes interest rates for the government (and in some sense helps the taxpayer, because interest burdens are lower), and increases the prices for treasuries. In contrast, the ECB does not deal directly in government bonds, so the interest rates are higher, and whoever gets liquidity from the ECB to buy bonds benefits, here at the expense of the taxpayers, who are faced with higher interest rates.

Anybody who does not deal in treasuries (in the US case) or who does not have access to CB liquidity (in the ECB case) does not benefit, and only reaps the effects of rising prices from the increase in money (assuming this really leads to inflation under the circumstances…).

It seems rather obvious that the way central banks conduct monetary policy, and the kind of assets that they buy, lead to advantages to certain privileged actors, because they have access to liquidity that other people do not get.

Very good and concise statement of the same point that I tried to make.

I think Scott’s objection would be that it is your own fault for not owning treasuries, so what’s unfair about it.

If you hear that the Fed is conducting an OMO and you believe that this will drive up bond prices, you could just call up your broker and get in on the rising market. And if you don’t have the money in your account, you could always take out a loan for your speculative investment in a rising market!

I think this is completely unrealistic, as not everybody is in a position to get in on such a speculative trade (and that is what it is, even if the asset is not exactly high-risk), and some people really are liquidity constrained and cannot easily access the money for such a trade, even if they saw the opportunity.

Ron, You are right that it doesn’t matter very much who they buy bananas from. But I was making a braoder point. There’s not much macro signficance to what asset they buy unless it becomes fical policy. Buying bananas would be fiscal policy, as they depreciate and are illiquid. Thus is makes no difference whether the Fed injects money by buying T-bonds or paying gov. salaries. It does make a difference whether the Fed buys bananas or pays government salaries.

Shining Raven, You misunderstood my argument. I agree that it makes a huge difference at the aggregate level if the Fed injects liquidity. I will lead to more aggregate spending. Indeed I made that very point in the title of my previous post!

We both agree that it doesn’t matter very much from whom the Fed buys a Treasury. Richman claimed it did matter quite a bit. The recient had more “purchasing power.”

Philo, I agree with much of your comment, but paying off government contractors is not fiscal unless the injection of money causes increasing government spending. But if contractors are just used as a conduit for the new money, and they would be hired in either case, then it doesn’t help them any more than if they were paid with old money.

Lots of commenters are not even in the ballpark, and are discussing issues completely unrelated to the post (Suvy, Mike Sax, Ben, etc.)

Shining Path, At the zero bound almost all the new base money goes into the banks, even if first injected into the public. If the Fed gives a bond dealer $10 billion in cash, he’s going to immediately deposit it in a bank. So it was inevitable that liquidity injections in 2008-09 were going to mostly end up in banks.

no it is the entire US bond selling apparatus including the public employees and govt. contractors propped up by the choice to buy bonds.

Scott doesn’t WANT to confuse this with who the fed buys bonds from.

And I’m suffering because the examples everyone uses – tacos, or worse, “sending everyone a check” don’t accent the choice that is being made of what to buy.

BUT, my example: a Fed NGDP Futures system that uses SMBs as the mechanism for injecting and extracting money into the supply…

My example VALIDLY confuses the issue. It shows that the CHOICE the fed is making about what to buy has consequences past the single transaction and indeed supports ENTIRE sectors and MANIPULATES the relationship between individuals and the state.

—–

If everyone would stop wasting time with taco analogies or see the Fed as “giving money away”

We could get to meat of the topic.

Since the Fed’s creation we have watched the CHOICE of what the Fed buys alter the value of bankers, govt. etc.

Scott WANTS NGDP.

Scott WANTS to run a NGDP futures market to establish the forecast to target.

I WANT to grab the idea, and alter it ever so slightly, so that the CHOICE of what the Fed buys and sells suddenly lets SMB owners touch the money first.

The point is:

1. this isn’t about Scott’s small assertion about what who sells a given bond.

2. this isn’t about te Fed buying some end consumer good (tacos)

3. this isn’t about printing money and handing it out.

4. and saying “fiat mney is bad” or “there shouldn’t be a Fed” is WORTHLESS.

We have gotten past all of that. None of these move the conversation forward.

But we CAN focus on WHAT THE FED CHOOSES TO BUY

1. but it must WORK as transmission mechanism for increasing and decreasing money supply – to be topical

2. it has to have the mirage of a Fed balance sheet, meaning the Fed has to get $ out as easily as it puts it in – or it won’t be taken seriously

3. It has to lay legitimate claim to functioning as positive economic policy for both sides of aisle – to be politically viable

These are rules, meant to define the justification of the Fed buying bonds.

My policy suggestion is to set the Fed up as an entity with hundreds of billions in SMB owner deposits

Mainly the top 2% of SMBs that take in 50%+ of SMB revenue, but the other 98% are fine too.

And just as the fed loses just a tad, overpaying with newly created money, they will do the same, but for SMB owners.

Now SMBs get newly printed money when the economy slows down – so they keep going – or even better, can go run buy cheap assets in fire sales.

Now SMBs see their accounts dwindle when the economy overheats, and they are FIRST to start dialing back – they are best prepared.

Scott is clearly right on this, as I explained on an earlier thread. But I’m still trying to understand the objections. Is it the tiny margin on bonds that primary dealers make? If instead, the Fed simply logged onto Treasury Direct and bought and sold bonds directly from the Treasury would that solve the issue in your eyes?

Then, of course, the monetary base would expand by the Treasury selling less bonds to the public than otherwise.

I can see you also are having difficulty understanding the mechanics of inflation. Let me put this in yet another (4th?) way: Suppose the Fed started to buy gold instead of t-bonds. Everyone at least agrees that this would bring a benefit to gold sellers. And, I think everyone also agrees that since the benefit is accruing to gold sellers, there is a removal of the benefit to t-bond sellers.

OK, suppose that this is the new baseline, Fed buying gold and not t-bonds. Now suppose that after some time, the Fed reversed course, and began to buy t-bonds instead of gold. By the same logic as before, this would bring the benefit back to t-bond sellers, and there will be a removal of the benefit from gold sellers. The reason gold sellers do not recieve this benefit is because the Fed is not buying from them.

And, finally, since there are many tens of thousands of sellers who are not receiving money from the Fed, they are also not recieving the benefit going to t-bond sellers. Thus, by vietue of the Fed buying from t-bond sellers, t-bond sellers are benefiting in a way that no other seller benefits.

We both agree that it doesn’t matter very much from whom the Fed buys a Treasury. Richman claimed it did matter quite a bit. The recient had more “purchasing power.”

These are weasal words: “Not very much”. If you accept they are non-zero, then we’re done. The receiver benefits by way of “more purchasing power”. Richman said it matters who receives the new money first, and you concede using weasel words.

The price that t-bond sellers would receive if the Fed stopped buying t-bonds from them, would be lower, and just how much lower would be an empirical question. Whether or not it would be a significant” or “insignificant” decline, is secondary to the point that Richman is making, which you continue to misrepresent.

Merely by virtue of the Fed buying t-bonds, they are adding a demand component to them, and this is the case even if bond investors price in a higher inflation premium and pay lower prices over time, as a result. In these instances, the decline in price is less than it otherwise would have been, had the Fed instead inflated and bought consumer goods, thus raising price inflation and triggering the inflation premium on t-bonds.

That difference is non-zero, and considering the totality of bonds purchased by the Fed, and how much t-bond prices would decline if the Fed stopped buying them, it is rather straightforward to see that Richman is right, and you are arguing against a straw man.

Shining Path, At the zero bound almost all the new base money goes into the banks, even if first injected into the public. If the Fed gives a bond dealer $10 billion in cash, he’s going to immediately deposit it in a bank. So it was inevitable that liquidity injections in 2008-09 were going to mostly end up in banks.

If the Fed gives a bond dealer $10 billion in cash, then the bond dealer is receiving a higher price for the bond than he otherwise would have fetched had the Fed not bought the bond, because the Fed is adding demand to the supply and demand pricing mechanism. I can fetch higher prices when one of my buyers is a fiat money creator, as opposed to if all my buyers had to produce to acquire money, and are cash constrained.

The reason a program of the Fed buying gold would bring benefits to gold sellers, is the same reason a program of the Fed buying t-bonds would bring benefits to t-bond sellers. That is the issue here, that is the actual debate.

Morgan,
In summary: The digital and transportation realities of our present make it impossible to isolate either size or location in economic activity. As Carnegie observed, no one lives in the same size tepee anymore.

Consider for instance that urban Chinese labor costs about five times as much as it did at the turn of the millenium. Whereas the union at Appliance Park agreed to a two-tier wage scale in 2005 and today 70 percent of the jobs there are on the lower tier starting at $13.50 an hour, almost $8 less than the starting wage used to be. Now the majority of manufacturing jobs are close to a par with retail and other lower skilled services offerings.

Yet small business everywhere egregiously ignores these wage realities and so far has gotten away with it, as SB continues to work in tandem with governments to harden the requirements for access to economic life. All of these Cantillon bogeymen everyone continues to flail at are truly beside the point, while the real supply side issue of limited access lies helpless in the gutter. Until that issue is addressed, local fiefdoms will continue to build their services castles as though manufacturing wages still had the spending power they held 40 years ago. You advocate more small business favoritism. I advocate a steppingstone approach with incremental economies, built upon inclusive flexibilities.

Ron, You are right that it doesn’t matter very much who they buy bananas from. But I was making a braoder point. There’s not much macro signficance to what asset they buy unless it becomes fical policy. Buying bananas would be fiscal policy, as they depreciate and are illiquid.

The concept of “liquidity” is in large part a function of the Fed. Treasuries are made more liquid because the Fed buys them. When there is a money printer in the population of buyers, the assets acquire additional liquidity. So if the Fed starts buying bananas, then “all of a sudden”, bananas will acquire addional liquidity.

More importantly, your definitions for fiscal policy versus monetary policy are not only ridiculous, but clearly an ex post ratinalization to distinguish t-bills from other assets so as to continue making the absurd definitional argument of “that’s fiscal policy, doesn’t count” when you accept that inflation generates the Cantillon Effect.

It also takes place in bond purchasing, what you define as monetary policy.

You are of course free to define terms any way you want, and you will never be “wrong” in that respect, but that doesn’t mean that if you define a particular action as monetary policy, that somehow this means the inflationary mechanic fundamentals are different, relative to inflationary mechanics in what you define as fiscal policy. Merely calling the same process by a different name doesn’t change the process itself.

An asset’s lifetime and liquidity is what you want to use to define fiscal from monetary policy? I can’t believe I am going down this path. OK, what if the Fed started buying AAA bonds and stocks from blue chip companies, assets that do not depreciate like t-bills, and are “liquid” like t-bills? According to your definitional criteria, that would be monetary policy, and yet the Fed would be owners of what used to be private companies. Again, define it any way you want, but it would still bring benefits to the (former) owners of those stocks and bonds, who are able to sell their stocks and bonds at higher prices than they otherwise would have fetched had they sold them in the money constrained market instead.

Thus is makes no difference whether the Fed injects money by buying T-bonds or paying gov. salaries. It does make a difference whether the Fed buys bananas or pays government salaries.

This is incorrect. It does make a difference whether the Fed buys t-bonds or labor, just like it makes a difference if the Fed buys bananas or labor. If they buy bananas, then benefits accrue to those banana sellers. If they buy labor from a group of laborers, then benefits accrue to those laborers. If they buy t-bonds, then benefits accrue to those t-bond sellers.

Each of those sellers are able to get a higher price than they otherwise would have fetched had the Fed not bought their goods.

Morgan,
….aaahhh, one more thing. The profits at the top are only bigger, because of the bigger jumps people have to make at the bottom, via ever more laws regulations and zoning to further limit economic access. Everytime the SB guy wants a law to benefit himself, the guy that put the law into place for the SB guy benefits even more.

I believe you are still mis-interpreting Richman, since his point is not that it is important that the Fed buys treasuries from one person instead of another, but that it buys treasuries, period. Instead of buying my personal IOUs.

I think we have to distinguish two effects:

1) The Fed increases the monetary base, which will in time lead to rising prices throughout the economy.

2) The Fed does this specifically by providing liquidity to only certain actors in the economy, primarily and specifically the banks that it deals with.

Because of 2), the banks have additional liquidity, compared to the situation before the injection, while the situation of all other actors is unchanged. They are therefore in a better position to exploit the expectations due to 1), general increase in prices. Everybody else has to scrabble for additional liquidity first, before they can act on these same expectations.

This is what I interpret the phrase to mean that “it matters who gets the money first”.

I mean, if we assume everybody was holding exactly the liquid assets that they wanted to hold against normal contingencies before the liquidity injection, then they first have to liquidate some assets before they can act on their new expectations. Except for the banks, who already had some assets made liquid courtesy of the central bank.

I think it is clear that this is going to affect the allocation of assets, so it clearly is not neutral.

Oh, and I really would love to have the contradiction resolved that I see to the “Hot Potato Effect”. This is something that I really do not get. What is different here, does it not apply? Or do I misunderstand something?

I believe you are still mis-interpreting Richman, since his point is not that it is important that the Fed buys treasuries from one person instead of another, but that it buys treasuries, period. Instead of buying my personal IOUs.

BINGO. That is exactly right. That is what “it matters who the Fed buys from” actually means.

If the t-bond sellers receive the new money first, then while everyone’s money is depreciated (including the t-bond seller’s money), only the t-bond sellers have an offsetting rise in actual money. So they gain relative to everyone else.

And even if we talk about who among the t-bond sellers benefit, then Sumner is still wrong. It does matter who among the t-bond sellers the Fed buys from. In this context, if the Fed buys your t-bond, but not my t-bond, then while everyone’s money balances are depreciated, including yours, only you got a rise in money balance. So you gain relative to me.

Now, even if the price of my t-bond goes up, and I sell it for a higher price, then in order to make sense of that, it has to be understood that myself and everyone else are in one group, those whose money is depreciated but our collective cash balances have not gone up, with you in the other group, where your money is depreciated but you did get an additional money influx that the other group (that includes me) did not get. So you gain relative to myself and everyone else, even if I personally receive more money from others in the group that is cash constrained. For my additional cash is accompanied by someone else’s reduced cash. “We” lose relative to “you” who got the new money first that depreciated everyone’s money.

This is obviously more complicated than treating things one person at a time and ignoring everything else. One has to take into account multiple concepts at once in order to get it.

When the Fed injects money, they do it by purchasing Treasury bonds and agency MBS at the current offered price. It may be argued that the Fed increases the price of Treasuries by increasing demand for them. Assuming this is true, this should benefit all Treasury owners equally – even those who don’t sell – since their holdings are now worth more. Further, assuming rational expectations, the price should rise in anticipation of the Fed purchases, at the time the policy is announced. So those who benefit are not necessarily those who own Treasuries at the time the purchases are made, but rather those who own them at the time the policy is announced. However, if one accepts that increasing the money supply also creates inflation, and that Treasury prices are inversely related to inflation, then it’s not clear that the Fed action should increase the price of Treasuries at all. One would have to balance the technical supply & demand considerations against the fundamental value considerations.

“Finally, it’s nice, although a little late in the game, to see Krugman explicitly say that only “a small piece” of the Bush tax cuts was for high-income people. It’s at about the 7:05 point of this video.”

Maybe next Henderson can find another “gem” where Krugman claims otherwise-that they were all for the rich. This phrase “just a small part” I think can be parsed-depends what you think is a small part. But certainly not all the cuts were for the rich.

What is clear is that the net effect of the Bush tax cuts were highly regressive as an authority no less than Evan Soltas tells us.

” “The Bush tax cuts were sharply regressive — that is, people with high incomes benefited far more as a percentage of their income. The expiration of the cuts would be correspondingly progressive, with large increases in the tax burden on high-income and wealthy families and individuals.”

“If all the tax cuts were allowed to expire, after-tax income of the lowest income quintile will fall 0.5 percent, and the middle-income quintile’s income will decline 2 percent. For the top-income quintile, however, after-tax income will fall by $7,119, or 4.1 percent. And the top 1 percent by income bears the brunt of the change, paying an extra 6.4 percent of income, or $70,746.”

[…] But of course Primary Dealers do prefer dealing directly with the Fed to waiting along with everyone else for their share of an enhanced AD schedule. In suggesting that they shoudn't Scott appears (to invoke the terminology of Roman law) to overlook the crucial distinction between lucrum emergens and damnum cessans. Fed insiders alone experience the former, whereas the latter is the paltry reward typically granted by the Fed to the hoi polloi. (The reward is, of course, greater when the initial equilibrium involves a shortage of money–but Scott's arguments are, it's important to note, not qualified as referring only to conditions of defl…. […]

When I initially left a comment I appear to have clicked on the -Notify me when new comments are added- checkbox and
now whenever a comment is added I get four emails with
the exact same comment. Is there a way you can remove me from that service?
Kudos!

[…] of factors of production.” In short, he is referring to the so-called Cantillon effect, in which Scott Sumner does not believe. I am still wondering whether or not this effect could be sterilized (in a closed economy) simply […]

[…] But of course Primary Dealers do prefer dealing directly with the Fed to waiting along with everyone else for their share of enhanced Aggregate Demand. In suggesting that they shoudn't Scott appears (to invoke the terminology of Roman law) to overlook the crucial distinction between lucrum emergens and damnum cessans. Fed insiders alone experience the former, whereas the latter is the paltry reward typically granted by the Fed to hoi polloi.* (The reward is, of course, greater when the initial equilibrium involves a shortage of money–but Scott never claims that his arguments refer only to monetary expansions undertaken during a state of….)** […]

There are a few nits I find with Richman’s article but the big picture is right. The thesis explains the facts, in terms of bubbles and the Piketty issues. FOMC doesn’t just buy securities. It promises to maintain a rate. And it remits to the govt. So they’re providing reserves and propping up the rest of the debt. As for the tiny proportion of the market bought or sold, these are leveraged firms and it’s not tiny anymore. Even if the transmission to the rest of the financial sector is fast, the 99% get the new money only by borrowing it. The 1% own the assets also traded by the banks. And/or they work in finance. It fits what has happened. Who benefited matches who benefit under Austrian thy. Who lost, same thing. You’re basically arguing that there are longer passers than Brady so he can’t be that good. You have a logical argument but it hasn’t played out the way you say it does. And it works that way historically. Cantillon himself is a fine example.

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Welcome to a new blog on the endlessly perplexing problem of monetary policy. You’ll quickly notice that I am not a natural blogger, yet I feel compelled by recent events to give it a shot. Read more...

Bio

My name is Scott Sumner and I have taught economics at Bentley University for the past 27 years. I earned a BA in economics at Wisconsin and a PhD at Chicago. My research has been in the field of monetary economics, particularly the role of the gold standard in the Great Depression. I had just begun research on the relationship between cultural values and neoliberal reforms, when I got pulled back into monetary economics by the current crisis.